China’s share of global output will fall over the next two decades, a leading consultancy is forecasting, upending the expectations of a generation that has only ever seen the Middle Kingdom rise inexorably in importance.
The country will account for 17 per cent of global gross domestic product, measured on a purchasing power parity basis, by 2040, below its current 19 per cent weight, according to Neil Shearing, group chief economist at Capital Economics, having peaked at 20 per cent in the mid-2020s, as the first chart shows.
The projected small but noticeable reversal in China’s dramatic rise to prominence since it opened up to the world 40 years ago is largely driven by an expected 12 per cent decline in its working-age population by 2040, depicted in the second chart.
“China’s working age population peaked in 2013 and employment will start to shrink before long, possibly as soon as this year, which will become an increasing headwind to economic growth,” said Mr Shearing.
In combination with other structural headwinds — such as an over-investment boom that has bolstered growth in recent years but led to too many resources being pumped into relatively unproductive parts of the economy — this means that China’s sustainable growth rate will fall to just 2 per cent by the late 2020s, Mr Shearing forecast.
Moreover, China’s rapidly ageing population, a result of its one-child policy, and its lack of private provision, means that, without reform, it is on course to spend 9.5 per cent of its GDP on pensions, a larger slice than in developed countries such as Japan, the UK and the US by 2050, as illustrated in the third chart, the consultancy calculates.
China has made dramatic strides since 1980, when its share of the global economy was only 2.3 per cent in PPP terms, as seen in the fourth chart, but Mr Shearing saw this progress petering out.
“We think China will fall off the path of rapid development laid down by the Asian growth stars of Japan, Korea and Taiwan,” he said. “Our forecasts suggest that China will remain much poorer than all the major advanced economies, with its GDP per capita staying around a third of that of the US.”
Capital Economics’ analysis suggests a challenging future for many emerging market countries. While many economists and policymakers work on the assumption that, broadly, the developing world will gradually narrow the income gap with advanced economies thanks to faster growth in GDP per capita, the consultancy suggests that convergence will actually reverse over the next 20 years in some countries.
Mexico is seen as the only major Latin American country that is likely to increase its GDP per capita as a proportion of that of the US (in PPP terms) in the period to 2040, as shown in the final chart.
Brazil and Argentina are both projected to go backwards by this measure, with productivity growth constrained by low investment rates, largely a result of weak savings rates, which also dictate that real interest rates are likely to remain high. Colombia’s outlook is darkened by the fact that “it is set to run out of crude oil, its key export, in around five years”, Mr Shearing said.
Convergence is also expected to reverse in South Africa, while the rest of sub-Saharan Africa “will make little progress converging with more developed economies”, as productivity growth is hampered by low investment rates, weak institutions and a lack of continental integration.
Although headline growth rates in sub-Saharan Africa may look solid, per capita incomes will rise less rapidly, with the region’s population forecast by the UN to rise from 1bn this year to 1.7bn in 2037.
Mr Shearing also forecast that per capita incomes in the Middle East and north Africa would be flat as a share of those in the US over the coming two decades, with the sole exception of Morocco, which has successfully positioned itself as a manufacturing hub for Europe.
Income convergence is also expected to stall in Russia, due to a poor business environment and the likelihood that oil prices will trend down in real terms, although the rest of eastern Europe may do better as its integration in western European supply chains allows incomes to rise relative to those to the west. Turkey is predicted to be another bright spot, thanks to rising labour force participation, particularly of women.
Most of the success stories are likely to be in Asia, though, with India forecast to almost double its share of global GDP from 8 per cent to 15 per cent by 2040, and the rest of emerging Asia (bar China) likely to expand from 10 per cent to 12 per cent.
Mr Shearing expected India to sustain annual growth of 5-7 per cent in the next two decades, allowing its economy to potentially triple in size.
India is on track to usurp China as the nation with the largest labour force by 2025, according to the UN, while female employment is tipped to rise from its current very low levels. High savings and investment rates and a gradual process of structural reform should also help.
Vietnam is also predicted to make progress, thanks to an improving business environment, political stability, low wages and the continued migration of low-end manufacturing from China.
“If you look at World Bank projections, and go and speak to clients and get a sense of what the market is thinking, most people expect that emerging markets will converge. That’s what they do,” Mr Shearing said.
“It works fine in theory, but when you look in practice, the second half of the 1990s and the 2000s [when most EMs did see strong growth] were really just an anomaly. It’s not the norm that EM converges. They didn’t converge in the 1950s, 1960s, 1970s or indeed the 1980s.
“We are reverting back to historical norms. Some EMs will have bursts of catch-up growth, others will run into structural problems that slow growth and some will go backwards.”
Not everyone agrees that China’s share of global output will start to decline any time soon, however. Adam Slater, lead economist at Oxford Economics, said he was “surprised” by the forecast, with his own calculations pointing to China having a 24.7 per cent share of global GDP, on a PPP basis, by 2040, taking its income per head from 28.6 per cent of US levels at present to 54.9 per cent by 2040.
His figures are based on Chinese growth only slowing to 4 per cent by the early 2030s and 3.5 per cent by 2040, comfortably above the 2 per cent rate Capital Economics is pencilling in by the late 2020s.
“If [growth] falls to 2 per cent [soon], it would be an unusually early decline,” Mr Slater said. “While this scenario is not out of the question it’s quite a big call for it to happen to a country like China at this level of per capita income.
“It’s not an implausible scenario but it’s at the bottom of the range and you have to be fairly pessimistic to get there.”
Oxford’s analysis is based on a 10 per cent decline in the Chinese workforce by 2040, slightly smaller than Capital’s 12 per cent, with Mr Slater arguing that the evidence from Japan is that the size of the labour force can be “more elastic” than is commonly thought, with Japan having seen a sharp rise in participation from the 65-75 age group.
As for the mooted spending on pensions, he added: “if it’s as crippling as that, they would change the system, I would think”.
While Mr Slater accepted there had been a degree of misallocation of resources in China, he argued there had been a lot of efficient investment in new industries as well. More broadly, the country still has “tremendous catch-up opportunity”, due to its still relatively lowly income levels, he said.
Hung Tran, executive director of the Institute of International Finance, an industry body, took a middle path, arguing that “it is difficult to say at what point China will start to shrink [as a share of the global economy] but the phenomenon of China getting bigger every year will probably come to a plateau and then start to decline over time,” adding “they will probably get old before they get rich”.
Capital Economics’ view that broader emerging market convergence is unlikely has more support.
Mr Tran argued that EMs’ growth rates “will slow over time,” following the pattern set by mature economies, potentially trending towards 2 per cent growth rates by 2060.
With the exception of India and most of Africa, most emerging market countries now have “an ageing population issue,” he said, with the growth rate of their working-age population slowing.
Mr Slater argued that “convergence is not something that happens by magic. Argentina is a good example of that, it has been deconverging for a century. There are also countries in Africa where that is true, that were better off in relative terms in the 1960s than they are now,” such as the Democratic Republic of Congo.
He forecast that Russia would fail to converge towards US income levels, not helped by its “appalling demographics”, while Brazil and South Africa would probably only enjoy limited convergence, although he was more optimistic about the Gulf.
“Most of the narrative is around a Chinese or Indian or African century,” said Mr Shearing. “But it’s hard for emerging markets to emulate China and Korea through manufacturing growth because manufacturing’s share of global GDP is inexorably falling, so the ability to grow and develop by producing stuff is falling as well.”
