China is #2. China is #99. What should I think?

Today Bloomberg.com published a small article announcing – ta da – that China has overtaken Japan with the second largest GDP in the world, second only to the -  ta da – the USA. We’re number 1, we’re #1. Do the wave now.

Anyway, in the case of China, the numbers are very interesting. For example, the comparison reported today has both China and Japan at about $5 trillion in Gross Domestic Product.

Note that when you compare the GDP across countries, you have to put all country amounts into one currency. This currency is usually the dollar. So the $5 trillion is the result of taking the country’s GDP in its own currency (yen or yuan) and using current exchange rates to convert to dollars. That sounds straightforward enough were it not for the fact that today’s exchange rate might be a little weird. That is, today’s exchange rate might not truly represent the  fundamental market forces that “ought to move it in one direction or another.” Or one might say the exchange rate is out of long-term equilibrium. So being weird they don’t trust it and then put it in jail. Economist’s jail, that is.

With the current exchange rate in jail, experts create a substitute that better reflects fundamental market forces – or at least it better represents changes in relative country prices. If China has a cost advantage and that makes its traded goods prices more competitive than other countries, this leads to a Chinese trade surplus. 

Theory suggests that the value of the yuan should rise to clear that surplus. Thus, an economist would say that the equilibrium value of the yuan is really higher than today’s market value. They call this the PPP (purchasing power parity) exchange rate. I hate to say PPP because every time I type PPP I have to run upstairs to the bathroom. But that’s an old man thing so don’t get off track here.

When we use the PPP estimate of GDP to compare countries, China has been #2 for quite a while.  Go to Wikipedia to see that China’s GDP at PPP is double that of Japan’s. http://en.wikipedia.org/wiki/List_of_countries_by_GDP_(PPP)  So while PPP does not change the ranking for Japan and China – it does give a very different picture – in one case the GDPs are the same – in the other case China’s is double that of Japan.

Okay – so one more statistic. Wikipedia also has a table with GDP at PPP per capita. We know China has a lot more people than Japan – so let’s see what happens when we ask how well the average person is doing. In that table, the US comes in 6^th, Japan is 23^rd, and China is 99^th. Yes, China was right behind economic super powers Guyana and Nimibia. Hmmm. http://en.wikipedia.org/wiki/List_of_countries_by_GDP_(PPP)_per_capita

So what does all this mean? I don’t really know. Notice how I made this post really short. It would take a very long post to discuss all the economic, political, and astro-physical implications of all this. So I will leave it to my wacko friends to say more.

But I will say this. There are many dimensions to a country’s economic size or might. Naturally a country with the world’s largest population should have a large GDP. But how strong can a country be if its average citizen is extremely poor? And in the case of China, a lot of the goods produced and measured in GDP go elsewhere – so what the average citizen living in China gets is even lower than the reported GDP figures. Clearly it makes sense that the Chinese government would want to improve per capita GDP.  With so many people, this will only push China farther up the ranks in terms of its total GDP produced. To think that a country with roughly four times the population of the US would forever be behind in terms of GDP simply makes no sense. So you go girl!

Finally one more point – I know there are many, many errors in cross country measurement. You can’t really compare the price of oxen in China to those in the US. There are also many problems in determining the value of the PPP exchange rate. But don’t let those measurement problems deter you from my main message in this post. China is a large, poor country with designs to be richer. As they get richer per capita, they will gradually approach and then exceed the GDP of the US.  But they have an even longer way to go before the average person in China will enjoy the income, wealth, and economic freedoms that we have in the US.