Author: Peter Drysdale, East Asia Forum
While predicting the future of anything is a loser’s game, we do it automatically whether we know it or not. In our individual, social and our economic pursuits we routinely shape our thinking and behaviour on assumptions about how things might pan out tomorrow, next year or even a decade out.
Much of the stuff we carry around in our heads about the future is individual, inconsequential and even if it involves matters of life and death, won’t matter to our collective fortunes. On other stuff, we’d be wise to test our assumptions and our hypotheses about what the future might look like more carefully. Thinking about the prospects of the Asian economies is an exercise that demands special rigour at this point in human history, because Asia’s remarkable growth — especially, over the past three decades, that of China — has already had profound impact on the shape of the world we live in and with which we have to deal day by day.
Larry Summers and his colleague Lant Pritchett, at Harvard University, in their recent paper entitled ‘Asiaphoria meets regression to the mean’ question what they call the consensus that Asia’s giants, China and India, will continue to grow and shift the gravity of the global economy towards Asia. They argue that there are substantial reasons why China and India may grow much less rapidly than is currently anticipated. They use some straightforward regression analysis to suggest that China’s and India’s recent decades of much higher than average world growth will more likely come to an abrupt end and revert to the global mean 2 per cent growth rate around which other countries, especially in the advanced world, have settled. The history of countries enjoying rapid growth, Summers and Pritchett argue, is that they return to the global average rate, usually very suddenly. Countries with authoritarian governments, they suggest, have the greatest chance of dropping off the growth cliff. ‘Regression to the mean is the single most robust finding of the growth literature and the typical degrees of regression to the mean imply substantial slowdowns in China and India relative even to the currently more cautious and less bullish forecasts’, say Summers and Pritchett.
The Summers and Pritchett paper doesn’t explain why there will likely be a sudden collapse in Asia’s growth although there are some reasonable hints. They simply observe, with impeccable arithmetic, that past income shares and past national growth rates are a poor guide to the future: ‘Many of the great economic forecasting errors of the past half century came from excessive extrapolation of performance in the recent past and treating a country’s growth rate as a permanent characteristic rather than a transient condition.’
The Summers and Pritchett arithmetic analysis of developing country growth performance suggests that it is distinguished by discontinuous drop-offs in growth. These discontinuities, they say, account for a large fraction of the variation in economic growth over the years. China, they declare, is ripe for a fall because of endemic corruption along with high measures of authoritarian rule and a discontinuous decline in Chinese growth is even more likely than general experience would suggest. China’s growth record in the past 35 years has been remarkable — and although nothing in Summers and Pritchett’s analysis, they insist, should be taken to suggest that a sharp slowdown is inevitable — their warning to forecasters and policymakers is clear. In looking at China we would ‘do well to contemplate a much wider range of outcomes than are typically considered’.
Summers and Pritchett are rather more careful than to suggest that analysts who see China and India continuing for some time to have a decisive impact on global economic outcomes simply project past growth rates into the future, though those that broadcast their headline results are not. For example, the Australian Treasury’s work on this issue does not naively project past growth rates forward and to suggest otherwise is professionally negligent.
Summers and Pritchett are less careful in their theorising about what has driven the remarkable changes in these countries’ growth and how the challenges of its next and, by professional consensus, slower phase might be managed. For a start — contrary to their implied claim — private, not state firms have been the foundation of Chinese growth.
There were major social revolutions when Chinese institutions moved decisively towards a market economy on a continental scale from the late-1970s and India began a similar though more limited liberalisation in the 1990s. The Summers and Pritchett time series arithmetic will miss entirely structural breaks like these.
As Paul Hubbard points out in this week’s lead ‘China’s was no simple Thatcher or Reagan-style deregulation. The Chinese rediscovered private property rights, reinvented private enterprise and re-opened to foreign trade for the purpose of catching up to modern science and technology. Using a simple mean reversion forecasting technique back in the 1970s would have completely missed this. And it misses the potential for continued — albeit slower — catch-up growth today’.
Hubbard plausibly suggests that the rise of Asia might be better conceived as the re-emergence of a world in which population size and economic size are closely linked. ‘First in Europe, then in North America, new technology and forms of energy severed this link, leading to radical inequality in the wealth of nations. So today, the United States produces 16 per cent of world output with just 4 per cent of world population. China also produces 16 per cent of world output, but with 20 per cent of world population’.
And, he concludes with some justification, expecting this to be its natural resting place — in a world where everyone grows at global trend — might be more a symptom of Asiaphobia than getting one’s sums right.
Peter Drysdale is Editor of the East Asia Forum.