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China, India and the World Economy

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China, India and the World Economy ...

    China, India and the World Economy

    *T.N. Srinivasan

    Introduction

     Among countries with at least 10 million people in 2003, China and India have been

    growing very rapidly since 1980. The World Bank (2005, Table 4.1) reports that China‟s GDP grew the fastest at an average rate of 10.3% per year during 1980-90, while India‟s grew

    at 5.7%. Of the five countries that grew faster than India during this decade, none did so

    subsequently during 1990-2003. In the latter period, China‟s GDP again grew fastest at the

    rate of 9.6% on an average per year, while India and Malaysia, at 5.9% per year, were the

    third most rapidly growing countries, with Mozambique at 7.1% being the second. In 2003-

    04, India‟s GDP growth rate jumped to 8.5%, fueled by recovery from a severe drought in the pervious year. The estimated growth rate for 2004-05 is 7.5% and the projected rate for 2005-

    06 is 8.1% (CSO, 2006; RBI, 2006). China‟s GDP growth rates, based on revised data, were 10.1% and 9.9% respectively in 2004 and 2005 and the projected rate for 2006 is 9.2%

    (World Bank, 2006, Table 1). Thus both countries continue to grow rapidly.

     In terms of absolute level of Gross National Income (GNI) at Purchasing Power Parity

    (PPP) exchange rates in 2003, China, with $6.4 trillion in GNI, was second largest in the

    World, second only to the United States at $11 trillion. India with $3 trillion in GNI was

    fourth after the U.S., China and Japan (3.6 trillion) (World Bank, 2005, Table 8.1). It is likely

    that in 2005, India replaced Japan as the country with the third largest GNI. IMF (2005, Box

* Samuel C. Park, Jr. Professor Economics, Yale University and Visiting Senior Fellow, Stanford Center for

    International Development. I thank Nicholas Hope, Kaoru Nabeshima and Shahid Yusuf for their comments on

    an earlier version.

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1.4) estimates India‟s share in global output at PPP exchange rates to have risen from 4.3% in

    1990 to 5.8% in 2004, and India‟s growth during 2003 and 2004 to have accounted for one-fifth of Asian growth and one-tenth of World growth, as compared to China‟s contribution

    respectively of 53% and 28%. It should cause no surprise then that the rapid growth of China

    and India has had significant impact on the World economy, though, not unsurprisingly, to the

    same extent.

    In what follows, Section 2 describes the two basic channels, namely import demand and

    export supply, through which the growth of a country influences growth of the rest of the

    world and vice versa. Section 3, the main section of the paper, is on growth of China and

    India and its influence on the World economy. It begins with indicators of the extent of

    integration of China and India with global markets for goods and services (Subsection 3.1).

    Subsection 3.2 focuses on Global GDP Growth and Shares of China and India. Subsection

    3.3 is devoted to sources and sustainability of growth using conventional decomposition of

    growth, in an accounting sense, into its components of factor accumulation (Subsection 3.3.1)

    and total factor productivity (Subsection 3.3.2). Subsection 3.4 is devoted to foreign capital

    flows to China and India. Section 4 looks at the place of, and competition between, the two

    countries in global markets from a disaggregated perspective. Section 5 concludes with some

    brief remarks on how public policy could influence the emerging growth scenarios and their

    impacts.

    2. Interdependence of Growth Among Trading Nations

    It is trivially obvious that if the World consists of autarkic economies, there cannot be any

    interdependence in growth across countries. Thus, the greater is the integration of an

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     More specifically: economy with the rest of the World in trade in goods and services, investment and finances, i. The sources of demand for the output of any good or service in the home

    the greater is likely to be interdependence in growth.economy are essentially two, namely, domestic and foreign. To the extent

    foreign demand accounts for a significant share of total demand, clearly

    growth in foreign income, ceteris paribus, will lead to growth in foreign

    demand for home exports and hence to growth in home income. This is the

    export-led growth channel for the domestic economy. A substitution of home

    exports by domestic supply abroad could be source of growth for the rest of

    the world. This is the home export substitution abroad (equivalently, foreign

    import substitution) channel for the foreign economy.

    ii. Analogously, the sources of supply for meeting the domestic demand for any

    good in the home economy are again two, namely, domestic and foreign. To

    the extent foreign supply accounts for a significant share of total supply,

    growth in home incomes, ceteris paribus, will lead to growth in home demand

    for foreign exports. This is the home import-led growth channel for the global

    economy. By the same token, substituting foreign with domestic supply could

    be a source of growth for the home economy, for a limited time, until all of

    foreign supply is eliminated. This is the home import-substitution channel for

    home growth.

Whether opening to trade by an autarkic economy has only a once-and-for all efficiency effect or also a

    dynamic growth effect, and if there is a growth effect, whether it is purely transitional or it is sustained along the

    steady state path are issues that have been explored in the literature. Of course, even static and transitional

    effects could affect growth over a long time if the process of trade liberation takes place over an extended period.

    Besides there could be other channels, such as diffusion of knowledge, associated with external sector

    liberalization that can generate growth effects and their interdependence across countries (Srinivasan, 2001). I

    will not discuss these issues in this paper which is focused on the medium term.

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    The ceteris paribus phrase, in (i) and (ii), covers many things including: that prices

    faced at the border by exporters and importers are unaffected, public policies that create a

    wedge between border and domestic prices remain the same, and more broadly, supply and

    demand conditions including technology, tastes, market structure, exchange rate policy

    regime, etc. remain the same as growth takes place. Clearly these are strong assumptions.

    . The For example, there is an on-going debate about whether global macroeconomic imbalances

    exchange rate and macroeconomic outcomes of alternative adjustment policies will have

    will be reduced or eliminated and about alternative adjustment policies for doing so

    implications for global growth and in particular, whether China and India or any other country

    will replace the U.S. as global growth engines (Williamson, 2005). Though relevant, this

    topic and other implications of changes in macroeconomic policies (e.g. monetary and fiscal)

    for macroeconomic stability and growth will not be covered in this paper. However, changes

    in policy regimes leading to trade and investment liberalization as well as technological

    changes (e.g. information technology revolution) could have significant impacts both on the

    growth of individual countries and industries and on growth of the world economy. I will

    attempt to account for such changes to the extent possible given what is known or projected.

    3 Growth of China and India and its Influence on the World Economy

    3.1 Indicators of the Extent of Integration in World Markets for Goods and Services

    An overall indicator of integration is the extent of international trade in the domestic

    economy as measured by the share of exports and imports in GDP and in the global economy

See papers and comments (including one by me) on this issue in Brookings Papers on Economic Activity, 1,

    2005.

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as measured by the share of a country‟s exports and imports in global exports and imports.

    The relevant data are in Table 1 below.

    TABLE 1

    Measures of Integration with the World Economy

     Percent of Total 12 34

     1983 1994 2004

    12India n.a. 7 14 Share in GDP of Exports of Goods China n.a. 18

    12Share in GDP of Imports of Goods China n.a. 14 32 and Services

    12and Services India n.a. 9 16

    Country Share in World Exports of China 1.2 2.8 6.7

    Merchandise India 0.5 0.6 0.8

    Country Share in World Imports of China 1.1 2.6 6.1

    Merchandise India 0.7 0.6 1.1

    Country Share in World Exports of China n.a. 1.6 2.9

    Commercial Services India n.a. 0.6 1.9

    Country Share in World Imports of China n.a. 1.5 3.4

    Commercial Services India n.a. 0.8 2.0

    1 Shares are for 1990

    2 Shares are for 2003. With newly revised GDP data for China showing higher levels of GDP, the

    shares would be somewhat lower.

    Sources: (1) For shares in GDP, World Bank (2005a), Table 4.9

     (2) For shares in World Trade, WTO (2005), Tables I.5 and I.7

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    It is clear from Table 1 that although both countries have become increasingly

    integrated with the World Economy, China has gone much farther, even allowing for the fact

    that China started the process of integration at least a decade earlier. Thus with twice as much

    or more share of exports and imports in GDP, more than seven times (five times) the share in

    World merchandise exports (imports), China is better positioned in 2004 for influencing (and

    also being influenced) by growth of the World economy. Interestingly, during the period

    1990-2003 while the share of exports and imports in India‟s GDP almost doubled, the

    increase in share in its World merchandise exports, proportionately, was far less. Thanks to

    its success in the IT service sector, India‟s share in World exports of commercial services tripled during the same period. It would seem that in India‟s case, with the possible exception of services the effect of greater integration is largely one-way and domestic, in the sense of its

    raising the rate of GDP growth and the share of trade in domestic GDP, rather than India‟s

    more rapid GDP growth influencing global GDP growth significantly.

    3.2 Shares of China and India in Global GDP and its Growth

    The measures of integration in Table 1 in effect proxy the potential for the growth of

    China and India to contribute to growth in the World Economy - put another way, if these

    measures were zero, so that China and India were autarkic, then obviously their growth would

    have no effect on the growth of the other countries of the World. But on the other hand, even

    if positive, the measures do not necessarily imply that the growth of the two countries had or

    would have, significant impact on global GDP growth or on the growth of low and middle

    income countries (or alternatively to the growth of developing Asia). Table 2, based on

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    ?, quantifies the impact in an accounting (not to be confused with causal)

    sense. Table 3 is from Jorgenson and Vu (2005) who use purchasing power parity based

    World Bank dataexchange rates.

    TABLE 2

     Share in Share in GDP of Growth Rate of Share in Growth Share in Growth

    Global GDP Low and Middle GDP (%) of World GDP Rate of Low and

    (%) Income Countries (%) Middle Income

    (%) Countries (%)

     1990 2003 1990 2003 1980-90 1990-03 1980-90 1990-03 1980-90 1980-03 CHINA 1.6 3.89 8.87 19. 9 10.3 9.6 5.1 13.3 30.5 51.6 INDIA 1.5 1.64 7.92 8.4 5.7 5.9 2.5 3.5 15.0 13.4 CHINA AND

    3.1 5.53 16.79 28.3 7.6 16.8 45.5 65.0 INDIA

    SOURCE: World Bank (2005), Tables 4.1 and 4.2

    TABLE 3

     Share in GDP of Share in GDP of Growth Rate of Share in GDP Share in GDP

    World (110 Developing Asia GDP (%) Growth of World Growth of

    Economies) (%) (16 Economies) (%) Developing Asia

    (%) (%)

     1989-95 1995-03 1989-95 1995-03 1989-95 1995-03 1989-95 1995-03 1989-95 1995-03 CHINA 7.64 10.91 36.37 41.68 9.94 7.13 30.30 22.58 49.17 52.86

     ? These data use exchange rates put together ( using the so called Atlas method) by the World Bank and do not

    make adjustments for differences in purchasing power parity.

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    INDIA 4.95 5.97 24.10 22.89 5.03 6.15 9.95 10.66 16.49 25.04

    CHINA 12.59 16.88 50.47 64.57 40.25 33.24 65.66 77.90

    AND INDIA

    SOURCE: Jorgenson and Vu (2005) Appendix Table 1

    A comparison of Tables 2 and 3 establishes that adjusting for purchasing power

    parities makes a substantial difference to the shares of the two countries in global GDP and

    growth. Still the two tables agree on the following:

    i. The shares of the two countries (GDP levels and growth) have been increasing

    over time, although more so in the case of China than India. The two together

    accounted for more than a sixth of global growth during 1990-2003 (Table2),

    and as high as a third during 1985-2003 (Table 3) once adjustment for PPP is

    made.

    ii. The relative share of China‟s growth in global growth compared to India‟s

    increased from around 2.0 in 1980-90 to 3.8 in 1990-2003 (Table 2).

    Interestingly, when adjustment is made for PPP, the relative share of China

    decreased from about 3.0 to 2.1 (Table 3). This suggests that relative to India,

    prices in China seem to be moving closer over time to world prices, confirming

    once again the findings of Table 1 that China is integrating with the World

    economy faster than India. The revised GDP data for China, which raise

    growth rates over 1993-04 compared to old data and also show that China was

    poised to become the World‟s 6

    th largest economy in US$ terms(World Bank,

    2006, p21) strengthen this conclusion.

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    iii. Unsurprisingly, these two large developing economies account for a large

    share of GDP and growth of low and middle income countries (Table 2) and of

    developing Asia (Table 3).

    The IMF (2005) recognizes that policy makers in India are actively seeking to

    strengthen India‟s global linkages and to accelerate its integration with the World economy.

    Success in these efforts would increase the role of India in the World economy. The report

    explicitly refers to one of the mechanisms, India‟s import demand, through which this would

    come about. To wit,

    A dynamic and open Indian economy would have an important impact on

    the world economy. If India continues to embrace globalization and

    reform, Indian imports could increasingly operate as a driver of global

    growth as it is one of a handful of economies forecast to have a growing

    working-age population over the next 40 years. Some 75-110 million will

    enter the labor force in the next decade, which should-provided these

    entrants are employed - fuel an increase in savings and investment given

    the higher propensity for workers to save.

    3.3 Sources and Sustainability of Growth

    3.3.1 Factor Accumulation

    China is already well integrated with the World economy. Indeed the share of

    international trade (exports and imports of good and services) in its GDP at 66% (Table 3) is

    very high for an economy of China‟s continental size and level of per capita income. It would

    be surprising indeed if the share will rise to much higher levels in the future. In China the

    share in population of persons in the working age (15-64), already at 65.7% in 2003, will not

    rise by much, if at all, and is more likely to fall in the coming decades. This reflects the

    effects of the draconian and coercive one-child policy instituted in 1979 and also the decline

    in fertility in the decade before. The dependency ratio will rise, if not in the next couple of

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decades, certainly soon thereafter. Its savings and investment rates at 47% and 44% of GDP

    (World Bank, 2005a, Table 4.9) respectively are also unlikely to be sustained indefinitely.

    These two facts suggest that from the input (labour and capital) side there will be a downward pressure on China‟s growth. On the other hand, as Perkins (2005) notes, China still has a large proportion of people of working age employed in agriculture and rural activities, with

    lower productivity than non-farm workers. He estimates that China‟s non-farm workforce

    could increase by another 70 to 100 million in the next decade depending on assumptions

    about expansion of senior secondary and university education. Thus, productivity gains from

    the intersectoral shift of labour as well as other changes that increase total factor productivity

    including technological improvement, could more than offset the downward pressure on

    growth so that aggregate GDP growth could be sustained in the ranges of 8% to 10% a year

    for the next couple of decades.

    In India‟s case, demographic trends are more favorable than China‟s. It is true that

    some of the Indian states (mainly in the South but also in the West) have achieved fertility

    rates at or below replacement level (without the use of an abhorrent and coercive one-child

    policy as in China) and hence will soon experience an increasing old-age dependency ratio as

    in China. However in the rest, which account for more than half of India‟s population, fertility

    rates, though declining, are above replacement. Hence, India‟s population of working age will rise as a share of total population in the medium term. India lags behind China in the

    educational attainment of its workforce and hence its catch-up with China on human capital

    accumulation will also contribute to growth. Moreover, with a much larger share of the

    workforce employed in agriculture and other low productivity activities, India has greater

    potential than China to experience significant productivity gains from intersectoral shift of

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