from Follow the Money

Yet more evidence China is an outlier

June 6, 2006 11:22 am (EST)

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Poor countries tend to have relatively weak currencies – that is, there is a big gap between their currencies' nominal exchange rate and the exchange rate implied by “purchasing power parity.”   Or, to put it a bit differently, non-traded goods tend to be very cheap by advanced economy standards in poor countries.   In one of my favorite papers, Jeff Frankel found that even against a sliding scale that assumes that relatively poor countries like China should have exchange rates that imply a signficant gap between their currencies nominal value and its purchasing power parity value, China’s currency was quite weak.   

Menzie Chinn’s work also found that China’s currency is on the weak side relative to expectations – even if it is not quite outside the one standard error confidence interval.   Just look at the red line in his graph

That matches all sorts of anecdotal evidence.  China isn’t just winning market share in the US and Europe.  It also is winning market share in say the textiles market in Africa – and that isn’t because African workers are on the high end of the global wage distribution.   Chinese export growth since 2002 has been and continues to be nothing short of spectacular – in almost all markets.  

And obviously, unusual performance by a country as big as China matters a lot more for the global economy than unusual performance by a country like Mauritius.  Or even your standard emerging economy.  There aren't many countries with something like 1.3 billion people.

Louis Kuijs of the World Bank finds more evidence that China is different.  China’s savings and investment patterns (for more, see this 2005 Kuijs paper) are increasingly outliers.  His bottom line:  “Investment and Savings [in China] are higher than expected, even if adjusted for differences in economic structure.

Edward Hugh take note: Kuijs adjusts for demographics.    

And even taking demographics into account, Chinese savings are very high.  And overall savings aren’t high because household savings rates are high.  Chinese Household savings rates of 16% are well above US levels, but not totally out of line with say French household savings (11%).  And they are less than Indian household savings (20%).   

Plus, household savings haven’t risen since 2000 – so they cannot explain the recent surge in savings.   Rather, Chinese savings is up because Chinese businesses save a ton – and because the business savings rate has risen significantly.  

Kuijs’s conclusion:

Policies matter – and policy choices, not just a cultural desire to save, explain the recent surge in Chinese savings: “China’s high savings is largely the result of particular policies.” 

Kuijs puts particular emphasis reforms that made Chinese state-owned business more profitable  (in part because they shed some “iron ricebowl” social welfare responsibilities) without creating mechanisms for distributing those profits back to the state or to the population.  The result: rising profits financed rising investment – not rising levels of consumption.  

His story makes sense to me.

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