[T]he conventional growth accounting based on the national income identity does not provide an adequate framework for assessing the contribution of components of demand to growth. The standard exports/GDP ratio overestimates the income (value-added) generated by exports because it ignores the foreign (import) contents of exports, which tend to be particularly high in countries closely linked to international production networks. Nor do net exports (that is exports minus imports) provide a correct measure of dependence of income on exports because all imports are deducted from exports, and imports used for domestic consumption and investment are not accounted for. Consequently, they underestimate the contribution of exports and overestimate the contribution of domestic demand to GDP. Thus, in order to assess the importance of exports in the income generating process, it is necessary to identify direct and indirect import contents of consumption, investment and exports, using input-output linkages. . . .
First, import contents of both domestic and external components of demand have been rising because of closer economic integration and greater vertical specialization and intra-industry trade. Second, in a large majority of countries import contents of exports are greater than those of domestic consumption and investment. Third, the import content of consumption is almost always lower than that of investment and the import content of government consumption is lower than that of private consumption. Finally, growth accounting based on the adjustment for import intensities of all components of effective demand generally gives a higher contribution of exports to growth than that produced by the conventional accounting based on net exports. . . .
The evidence suggests that in recent years the average import content of Chinese exports has been between 40 and 50 per cent; that is, domestic value-added generated by exports is less than 60 per cent of their gross value. In value-added terms the share of exports in GDP is in the order of 20 per cent. Domestic value-added generated by per unit of processing (assembly) exports is around a quarter of value-added generated by non-processing exports. In non-processing exports much of the domestic value-added is created in sectors supplying inputs for exports, rather than in sectors producing exportables. By contrast processing exports rely very little on inputs from other sectors and an important part of the value-added generated in sectors producing exportables accrue to foreign companies.
The import content of consumption in China is quite low compared to more advanced economies. Around 60 per cent of imports are used, directly and indirectly, for exports, less than 15 per cent for consumption and some 20-25 per cent for investment. Thus, the Chinese economy appears to be significantly open to imports for exports and export-oriented investment, but not for domestic consumption.
Despite high import content of exports, one-third of growth of income in China in the years before the outbreak of the global crisis is estimated to have been due to exports because of their phenomenal growth of 25 per cent per annum. This figure goes up to 40 per cent if spillovers to domestic consumption (the multiplier) are accounted for and to 50 per cent with knock-on effects on domestic investment. These figures are significantly higher than the estimates of some 15 per cent produced by conventional accounting based on net exports.
It is estimated that a 10 percentage-point decline in the growth rate of exports would reduce Chinese GDP growth by at least 2 percentage points, including spillovers to domestic consumption, and by 2.5 percentage points including spillovers to both domestic consumption and investment. The sharp contraction of exports in 2009 resulted in a swing of almost 6 percentage points from 2002-07 in the contribution of exports to growth. Despite massive intervention, this was only partly offset by faster growth of domestic demand so that GDP growth in 2009 is estimated to have remained 2.5-3 percentage points below the 2002-07 average.
A return by China to a trend income growth of some 10 per cent per annum based on exports would require continued large gains in foreign markets. This would be problematic coming on top of existing trade imbalances and prospects of slow growth and high unemployment in major advanced economies. An aggressive export push by China could face stern resistance with attendant consequences for the stability of the international trading system. If, on the other hand, China cuts growth of its exports to a more acceptable level, then, without a fundamental change in the pace and pattern of domestic demand, it may grow by no more than 7 per cent — and even less if growth slowdown gives rise to increased financial difficulties and asset deflation.
When investment grows faster than consumption, firms would need to expand rapidly in foreign markets in order to fully utilize the production capacity thus created and maintain strong growth. China has been able to do this so far. However, if such an expansion is no longer feasible, the way out is to put consumption ahead of income and investment. In China the share of private consumption in GDP has been constantly falling since the late 1990s, from over 55 per cent to some 36 per cent in the past two years. It is below the share of investment in GDP, which has now been pushed up to 50 per cent by fiscal and monetary policy interventions in response to contraction of exports. For every 10 percentage point decline in the growth rate of exports, consumption would need to grow by at least 5 percentage points faster in order to stabilize growth. Investment also needs to be significantly moderated in order to address the problem of excess capacity in several sectors, aggravated by recent stimulus packages.
Under-consumption in China is due not so much to exceptionally large household savings as a low share of household income in GDP. Much of this income consists of wages because government transfers and investment income are very small. The share of wages in GDP has been constantly falling since the late 1990s and this is perfectly mirrored by the declining share of private consumption. With the continued rise of profits, corporate retentions, including by state-owned enterprises, have come to exceed 20 per cent of GDP — far higher than the rates seen during the earlier industrialization of Japan and the NIEs. Thus, the disparity between consumption and investment and the consequent dependence on foreign markets is a reflection of the imbalance between wages and profits, and between household and corporate incomes. This needs to be rectified if rapid and sustained growth is to be attained based on the domestic market.
Yılmaz Akyüz, former Director of the Division on Globalization and Development Strategies of the UNCTAD, is Special Economic Advisor to the South Centre. This article was first published by South Centre in April 2010; it is reproduced here for non-profit educational purposes.