But does that mean that China’s adjustment is on track?

According to the IMF, the fall in China’s current-account surplus-to-GDP ratio has largely been the result of very high levels of investment, a weak global environment and an increase in prices for commodity imports that has outpaced the rise in prices for Chinese manufactured goods. So the fall in China’s external surplus-to-GDP ratio does not represent economic ‘rebalancing’; on the contrary, the IMF predicts that the ratio will rebound in 2013 and approach its pre-crisis level thereafter.

The IMF’s explanation of the recent fall in China’s current-account surplus-to-GDP ratio is broadly correct. Experience suggests that China’s external position is highly sensitive to global conditions, with the surplus-to-GDP ratio rising during boom times for the world economy and falling during slumps. Europe’s malaise has hit China’s exports hard, and is the central factor underlying the current decline in the ratio.

By definition, without a change in the savings gap, there will be no change in the trade surplus, and vice versa. China introduced a RMB4 trillion (US$634 billion) stimulus package in response to the global financial crisis of 2008. The increase in investment reduced the savings-to-GDP ratio, and the resulting increase in imports lowered the trade surplus-to-GDP ratio. As a result, China’s external surplus-to-GDP ratio fell significantly in 2009.

In 2010, China’s government adjusted its economic policy. To control inflation and the development of real estate bubbles, the central bank tightened monetary policy and the government refrained from another round of fiscal stimulus. China’s real estate investment accounted for 10 per cent of GDP, and slower investment growth in the sector necessarily reduces import demand, directly and indirectly. But because a more serious fall in import growth had yet to occur, and because China’s exports to Europe plummeted, China’s current-account surplus fell further in GDP terms in 2011.

This is likely to change in 2012. The negative impact of the fall in real estate investment since 2010 has been stronger than expected: almost all categories of imports that fell by 10 per cent or more in August were related to real estate investment. As a result, it is possible that the fall in investment growth will reverse the declining external surplus-to-GDP ratio in 2012, unless the global economy deteriorates further and/or the Chinese government launches a new stimulus package.

Perhaps most importantly, China must now export more manufactured goods to finance its imports of energy and mineral products. The worsening terms of trade have been a major factor contributing to the decline in the current-account surplus of recent years.

Despite the merits of its analysis, the IMF underestimates how much China has already rebalanced. China’s rebalancing is more genuine — and more fundamental — than the Fund recognises, and the prediction of an eventual rebound in China’s external surplus-to-GDP ratio may turn out to be wrong.

First, the roughly 30 per cent real exchange rate appreciation since 2005 had a serious impact on exporters. Though the market shares of Chinese exports seem to have held up quite well, this can be attributed to price-cutting in foreign markets, which is not sustainable. Over time, real exchange rate appreciation will cause a shift in expenditure, making China’s rebalancing more apparent.

Second, China’s wage levels are rising rapidly. According to the Twelfth Five-Year Plan, the minimum wage should grow by 13 per cent per year. Together with real appreciation, the increase in labour costs will weaken the competitiveness of China’s labour-intensive export sector, and the trade balance will come to reflect this more clearly in years to come.

Third, China has made significant progress in building its social security system. The number of people covered by basic old-age insurance, unemployment insurance, workers’ compensation and maternity insurance has risen substantially, so the motivation for precautionary saving has been weakened somewhat. Meanwhile, researchers have found statistical evidence that the consumption rate is rising, supported by China’s emergence as the world’s fourth-largest importer of luxury goods and, more vividly, by the nationwide traffic jams caused by 450 million holiday makers hitting the road during the National Day holiday last October.

Finally, the worsening of China’s terms of trade will play a fundamental role in reducing its trade surplus in the future. Given weak demand, which may be prolonged, Chinese exporters must accept increasingly thin profit margins to maintain market share. Yet China’s large size and low per capita income and capital stock imply continued rapid growth in its demand for commodities. Thanks to supply constraints, China’s import bill for commodities and metals is likely to offset its processing-trade surplus in the near future.

In short, as long as China’s government maintains its current policy stance, the current-account surplus is more likely to continue to fall relative to GDP than it is to rebound in 2013 and thereafter. Such an outcome is not only likely, but desirable. After all, faced with ‘infinite quantitative easing’, being a large net creditor means being in the worst position in today’s global economy.

Yu Yongding was President of the China Society of World Economics and Director of the Institute of World Economics and Politics at the Chinese Academy of Social Sciences. He has also served as a member of the Monetary Policy Committee of the People’s Bank of China, and as a member of the National Advisory Committee of China’s Eleventh Five-Year Plan.

A version of this article was first published here in Project Syndicate.