Will China's Economy Pass The United States?

This is something that was forecast for years. Many believe that China is destined to surpass the United States as the largest economy in the world. This is something that was discussed as soon as the majority of the population realized the Chinese story was exploding.

For the last 20 years, many have not believe it is "if" but "when" this occurs. Certainly, a case could be made these people were right. Even looking at a chart was see the massive trajectory the Chinese economy was on.

Here is a chart from the World Bank:

As we can see, from about 2004, the Chinese line went parabolic. No matter how you slice it, this is very impressive.

The United States, for its part, was rather steady over that time. It is what allowed the Chinese to close the gap.

This leads us to the conversation of what does the future hold? We see where things were but it is important to decipher what could be ahead.

Things Are Changing

Going from strictly a chart perspective, we notice how the last couple years saw a change. The U.S. GDP started to accelerate at a faster pace. This is through the end of 2022 so we have to understand that neither country's numbers for the first half of 2023 are included.

That said, it is universally recognized that the Chinese economy is suffering. Many are forecasting that it is in a recession and could be headed for a prolonged depression. The numbers are hard to figure since the data can be very questionable. Nevertheless, looking at what we can see, it is not a pleasant situation.

The United States could be heading into a similar situation. While a depression, at least according to economists, might not be on the table for the U.S., it is likely that we see a recession at some point. The headwinds appear to be getting stronger and 2024 could be a rough one. Fed policy doesn't really take place until 9-12 months after it is introduced.

That means the impact from the interest rate hikes is still ahead of us. This is exactly what the yield curve has been telling us.

End Of The Chinese Miracle

I am going to say we are at the end of the Chinese miracle. In fact, it was done a while ago.

There are two things that lead me to this conclusion.

The first is infrastructure spending. Over the past decade, each time GDP softened, the government came out with more spending projects. This is now a country with more than 70 million residents that never will be lived in. They have bridges to nowhere all over the place and unoccupied cities.

All of this was fueled by debt. Hence, the country simply increased its debt load to build stuff to keep the GDP numbers up. This might have stimulated more FDI money but that is starting to be withdrawn for various reasons.

Another reason is Chairman Xi himself. A number of years ago he started his "Chinese First" rhetoric. This actually ended up as a policy whereby the focus was internal.

Why did this happen? It is likely because Xi saw the growth story as over. He could no longer promise the Chinese population prosperity. That train left the station. Hence, he brought good ole nationalism into the equation and started the China against the world stance. Of course, he wasn't entirely wrong since the neocons in the U.S. and Europe had their eyes on his country.

Nevertheless, if a 10% growth in GDP was still possible, Xi would have kept beating that drum.

Without infrastructure spending, China's numbers over the last decade were rather unimpressive. They are still large but not the off the charts that we are accustomed to seeing.

It is reflected in the flattening of their economy growth while the U.S. accelerated (through 2022 at least).

Will China Pass The U.S.?

This is still the multi-trillion dollar question.

There are a number of headwinds that make this difficult. Before getting to them, let us look at one way that it could.

If the United States broke up, and it ended up with 3 separate entities, then China would, by default be the largest economy in the world.

Short of that, it is unlikely.

The list against it starts with demographics. This is something I covered in many articles so will not beat that horse again. China is looking at a future similar to Japan post-1990. The population might have peaked. Even worse, it is aging quickly with fewer babies being born each year.

Another headwind is the fact that the low cost manufacturer tend to enter depressions.

People forget that the United States use to be China for Europe. In the late 1800s, the U.S. was the low cost producer. This is something that carried near World War I, when that ended. We know what happened to the U.S. economy in the 1930s.

Are you old enough when "Made in Japan" was the rage? Post World War II, the Japanese took over the role, being the chief exporter to the U.S. This fueled its economy through the 1980s, when things imploded.

Japan then suffered a lost decade, that lasted 30 years. Only the COVID lockdowns gave them a reprieve, something that looks like it is reversing.

In an age where technology is expanding so rapidly, China's dominance in manufacturing could be threatened by machines. After all, if one builds a plant and staffs it with robots, the same can be done in Topeka.

Finally, and this is related to demographics, to succeed, China needs to become a consumption based economy. While there are a lot of people, they are missing the most expensive item of all: kids.

Any parent knows these are expensive creatures that are consumption machines. They not only require regular feeding but also new shoes regardless of whether the old ones are worn out. When we spread this over an economy, it is very powerful. The fact it is lacking is going to make it tough for the Chinese to keep raising their standards. Services are the way to go yet hard to maintain without the younger generations.

We will see how this unfolds over the rest of the decade. A couple bad years out of China will the U.S. holds serve could end up seriously altering the prospects for the Chinese.

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