China Is Now The World’s Second Largest Economy

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China became the world’s second largest economy in 2009, passing Japan, which has held this distinction for decades. The People’s Republic raised its growth forecast for 2008 to 9.6% from 9% which took the total to over $4.6 trillion. The Chinese government says it will have economic growth of 8%.  The financial ministry has suggest that the 2009 number will almost certainly be revised up early next year.

Japan’s GDP did not grow at all this year and could actually drop by 6% or more depending on the direction of its economic revisions.

The CIA Factbook, a source of data that many experts use to compare national economies, reported that China’s 2008 GDP was $4.6 trillion and Japan’s was $4.9 trillion. The 2009 numbers are likely to be $4.75 trillion for China and $4.6 trillion for Japan.

China has had a natural advantage over Japan for years. Japan no longer has the world’s largest pool of inexpensive labor. Its cost to build exports has risen from the 1970s when it had a huge advantage over the US and Europe for the cost of  building cars and consumer electronics. Japan inadvertently created a well-paid middle class that expected high wages. China, however, is still bringing people from its impoverished rural regions into large cities to work in factories. These people are paid very modestly, but the cost of living in China is low compared with Japan and the West.

China also has an abundance of natural resources, particularly energy and raw materials like metal. Japan is too small geographically and consequently never had those resources. It has always had to import most of the components of the products that it made and has been periodically plagued because it has been captive to the price increases of oil and natural gas.

It will be several decades before China’s GDP can match that of the US. America’s gross domestic product will be over $14 trillion this year. China will gain on that number quickly if US economic output stays below 2% or 3% and China continues to expand at 10% or better.

China may never have to build a  military to pass the US as the world’s leading power. The possession of the world’s most powerful armies was important in the 20th Century, but national influence in the 21st Century is built more on currency value, export strength, and access to natural resources. China’s government is willing to spend hundreds of billions of dollars to expand its manufacturing capacity and to buy natural resources, particularly oil, from every continent in the world.

There is, of course, always the chance that China’s economy will encounter economic crises of it own.  Economists believed in the 1980s that Japan might pass the US in GDP eventually because of its labor and public policy advantages. Japan then hit a period when equity and property values dropped by over half and its chance to challenge the US disappeared. Inflation could still undermine China’s growth along with the rising cost of its own labor.

China is considered  likely to pass the US in GDP, but three decades ago, so was  Japan.

Douglas A. McIntyre