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Misreading China's Economy

Why the Old Measures of Growth Don't Work

Skyscrapers Oriental Pearl Tower and Jin Mao Tower (L) are seen from the Shanghai World Financial Center, China, January 28, 2016. Aly Song / Reuters

January’s global stock market rout was initially triggered by mounting concerns over China’s shrinking industrial sector. But such concerns are unjustified. By now, it is clear that Beijing is doing everything in its power to rebalance its economy from industrial to service-based. In 2013, services overtook the industrial sector in both total size and pace of growth, and they now account for almost 50 percent of China’s GDP. Yet the analytical tools that we use to assess China’s performance haven’t caught up with the structural changes now under way, which means that observers can easily get China wrong.

At the moment, markets track the performance of the Chinese economy by focusing on indicators that apply, for the most part, to the old economy and pretty much ignore developments in services. Every month analysts closely monitor data on China’s exports, consumption of raw materials, and industrial production. They also scrutinize the moves of Chinese authorities, such as the adoption of expansionary monetary policies, to understand whether they are meant to support struggling manufacturers. At the beginning of January, for example, analysts used a string of disappointing figures from the industrial sector, coupled with an ill-timed depreciation of the yuan against the U.S. dollar by the People’s Bank of China, to confirm the direst predictions of an imminent economic crash. But China’s economy is, in fact, far from collapse and growing at an official estimate of 6.9 percent.

Moreover, given the opacity of China’s official GDP statistics, one of the most widely used GDP trackers for the Chinese economy is the so-called Li Keqiang Index, which combines data about credit growth, energy consumption, and freight transport volumes—all indicators that are more sensitive to shocks in the industrial and commodity sectors than to changes in aggregate economic activity. The rationale of the indicator reflects the way the old economy functions: factories, cheaply funded by state-controlled banks, produce goods by massively consuming electricity, and they ship them

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