Wednesday 21 November 2018

GDP can't provide a sure answer to exactly how strong China's economy is

US President Donald Trump and Chinese President Xi Jinping – Chinese state spending has increased in June
US President Donald Trump and Chinese President Xi Jinping – Chinese state spending has increased in June

Daniel Moss

It's the go-to measure of an economy. But sometimes gross domestic product (GDP) doesn't tell you much.

A glance at China's second-quarter GDP, released Monday, might suggest things are holding up pretty well in the world's second-largest economy. The 6.7pc increase from a year ago - just barely below the prior period - points to a China that weathered the early skirmishes of a trade war, continued its transition to a consumption-driven economy and isn't suffering too much from a state campaign to rein in debt.

Fair enough, as far as it goes. But the quarterly data doesn't convey that activity slowed significantly in June, the last month of the period under review. (This isn't a comment on whether China's figures are cooked, though there are skeptics who point to comments WikiLeaks attributed to premier Li Keqiang when he was a provincial leader that GDP is "man-made" and "for reference only".)

Figures released the same day as GDP showed fixed-asset investment by the government and state-owned enterprises grew at the slowest pace since at least 2004 last month, and industrial production cooled. Two other numbers showed a mixed bag: Retail sales were healthy, while a report last Friday showed new loans by the shadow-banking system dropped the most on record.

Similarly, the quarterly headline also gives the impression that Beijing's campaign to rein in debt isn't denting the broader economy and that little course correction is warranted. In reality, China is tweaking monetary policy to prevent June's softness leading to a more pronounced slackening.

The imposition of tariffs by US President Donald Trump (and China's retaliation) gives the task more impetus. The People's Bank of China has trimmed the amount of cash that banks are required to hold as reserves, albeit with very specific conditions. The PBOC demurred on interest rates in June instead of following the Federal Reserve's hike, as some economists had anticipated. Government spending picked up in June, focused on environmental protection, science and technology. These steps don't amount to a wholesale opening of the spigot; they do show that President Xi Jinping's team is attuned to risks and is prepared to take further steps, preferably without compromising debt reduction. Soft landings are tricky.

Too much focus on GDP would miss all this. The same is true of Western economies. Quarterly GDP gives you an idea of what three months, in aggregate, look like compared with a three-month aggregate from a year ago or one quarter ago. It isn't very illuminating about the real-time direction of the economy or its velocity.

There's also a faction within economics challenging GDP as a measure of economic well-being. Lorenzo Fioramonti, author of 'The World After GDP', is one economist who argues it's time for something different. A guest on the Bloomberg Benchmark podcast last year, Mr Fioramonti sees the South Pacific island of Nauru as a case in point. Rapacious mining swelled GDP and attracted lots of banks eager to lend to Nauru. Environmental damage was simultaneously destroying Nauru's future, but GDP showed everything was hunky-dory.

There's no easy answer. As long as governments publish GDP, unilaterally doing away with the quarterly gauge would be silly. We should also proceed with caution when basing an economic assessment on those three letters. That's especially the case with China, because what happens there is so critical for the world economy.

China's picture may look placid on the surface. It's also easy to think that the country has everything figured out, especially in contrast to the apparent chaos in the West since Brexit and Mr Trump's election. Underneath China's bland projection, there is a truly compelling economic dynamic playing out.

Who knows? Maybe China can perfectly thread the needle between deleveraging and growth. Just don't rely on GDP to show that.(Bloomberg)

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