Chapter 2. On Trade Surplus from Property Rights 35
3.2 Limitations of Calculating the GDP using
As early as the 1970s, Prof. Perkins of Harvard University made a detailed elaboration of this problem in his textbook Development Economics. The Atlas method may grossly underestimate the GDP of developing countries because of the different price factors and sta- tistical calibers. His elaboration is highly recognized in the academic world, without any academic repute.
Calculating the GDP using the Atlas method has a long his- tory. When calculating the GDP, the original statistics must use the home monetary unit, such as $ for the U.S., Pound for the United Kingdom, and RMB for China. To perform transverse comparison, a currency should be selected as the basis. As the $ is a national currency and at the same time the international reserve currency, the GDPs of different countries are multiplied by the exchange rate to obtain the GDPs in $, and different analyses and comparisons are then performed. This method is very simple and practical, without any additional workload in the conversion process, so this method is widely used. Limited by economic and statistical knowledge, the news media and politicians prefer this simple conversion method as well.
The calculation formula of the Atlas method is as follows:
GDP =Ex
P Y,
Interpreting the Economic Scale of China 63
where Ex is the exchange rate, P is the price, Y is the quantity of commodities or services, and
is the summation. When calculating the GDP, the quantity of the products is multiplied by the domestic price. The sum is then derived and multiplied by the exchange rate.
Many economists point out that these four elements cause contra- dictions that are difficult to solve when transversely comparing the GDPs of different countries.
First, the price variance generates the deviation. The original statistics of the GDP must be calculated using the domestic price.
The prices in different countries all over the world vary greatly, and the purchasing power also varies depending on the place. For exam- ple, the price of rice in the international market is considerably higher than that in Shanxi. People can buy a large amount and just spend a dollar. Indeed, purchasing power varies depending on the place. For example, the price of millet in the international market is remark- ably higher than that in Shanxi Province. When eating rice, Shanxi farmers do not think that rice is expensive in North America. If the output of rice is calculated according to the price in Shaanxi, the result must be markedly lower than that according to the price in North America.
Can price variance in different places be eliminated? This is almost impossible. In the market economy, the price level reflects the scarcity of resources. A thing is valued if it is rare. China has abundant labor resources so the wage level is very low. Similarly, France is rich in grapes so wine there is sold cheap. With the uneven distribution of resources across countries, the transaction costs of several products are so high that including them in the market for transaction is extremely difficult and leads to price variance in dif- ferent countries in the world.
Second, many commodities have low degrees of monetization and marketization in developing countries. These commodities are pro- duced and consumed domestically. For example, farmers in Jiangxi and Hunan produce rice wine and sell it at a very low price in local places so the output can be neglected. Japan also produces a similar rice wine, but it becomes very expensive after marketing. If a conver- sion is done using the Atlas method, are not many jins of Jiangxi rice
64 From Trade Surplus to the Dispute over the Exchange Rate
wine worth one jin of Japanese rice wine? Without commercialization and marketization, statistics cannot be calculated.
Third, not all products enter international trade. In real life, many commodities and services (e.g., hair, domestic service, etc.) cannot flow across countries. If the GDP calculated using the domestic price is multiplied by the exchange rate for $, all commodities or services can enter international trade. In fact, many services cannot be traded across countries. China is a developing country that has just recently opened up to the world. The Atlas method assumes that all commodi- ties and services of China participate in the international market for exchange, which is contrary to the objective reality.
Fourth, the different statistical scopes cause distortion. Strictly speaking, when calculating the GDP of a country, all its commodi- ties should be included. However, tens of thousands of different products and services exist; therefore, such inclusion is impossible.
Several representative products should be selected for calculation.
Given the different national conditions, different statistical objects are often selected. The statistical basket of the U.S. contains many high-tech products, but many developing countries do not have such items.
Fifth, the taxation data are the main source of statistics in many countries. In the U.S., legal, medical, insurance, education, and other service departments are highly industrialized. Thus, the people can calculate the GDP of this industry according to their income taxes.
However, in many developing countries, including China, people have low awareness of paying taxes because of the flawed taxation system.
Therefore, calculating the GDP of several service industries is diffi- cult. As a result, many service departments (e.g., domestic service, vendors, etc.) are not included in the statistical scope.
Sixth, the fluctuations of the exchange rate will significantly affect the GDP value. For example, in the 1980s, when the Yen appreci- ated, the economic growth rate calculated according to the Atlas method was 30.3% in 1987 and up to 37% in 1988. This extremely high economic growth rate was only an illusion brought about by the exchange rate adjustment. In fact, the real economic growth rate of Japan was 4.2% in 1987 and 6.3% in 1988. When the Asian financial
Interpreting the Economic Scale of China 65
Table 3.2: Economic growth rate of Japan.
Per capita GDP Economic growth rate in $ (%) Real growth rate
1981 10630 NA 3.6
1982 10070 −5.3 3.2
1983 9760 −3.1 3.6
1984 10010 2.6 4.3
1985 10950 9.4 5.0
1986 13200 20.5 2.5
1987 17200 30.3 4.2
1988 26570 37.0 6.3
1989 25460 8.0 4.8
1990 26100 2.5 4.9
1991 26960 3.3 4.3
1992 28750 6.6 1.1
1993 31490 9.5 0.1
1994 34630 10.0 0.7
1995 39640 14.5 1.9
1996 37774 −4.7 3.8
1997 37850 0.2 0.9
1998 32380 −14.5 −1.8
1999 32230 −0.5 0.8
Source: IMF, World Economy Outlook Database.
crisis broke out in 1998, the yen depreciated sharply, leading to the drop in the economic growth rate in $ to 14.5%. Clearly, it exagger- ated the impact of the financial crisis on the Japanese economy in the other direction (Table 3.2).
Another very persuasive example is the economic growth rate of China. In 1980, the exchange rate of RMB was 1 $ to 1.7 RMB.
Since then, it has depreciated continuously. In 1994, the exchange rate of RMB was 1 $ to 8.6 RMB. During the depreciation of RMB, the Chinese economy realized its take-off, with the annual economic growth rate of more than 9%. However, according to the Atlas method, the economic miracle of China disappeared. In 1994, China implemented the exchange rate reform to combine the Foreign Exchange Certificates (FEC) under the double-track price system with RMB. As a result, the nominal exchange rate surged from 1:5.76 to 1:8.62. However, according to the Atlas method, the economic
66 From Trade Surplus to the Dispute over the Exchange Rate
growth rate of China was −8.8% in 1994. People seeing this data would think that the Chinese economy had suffered a huge setback in 1994. On the contrary, the economic growth rate of China that year was as high as 13.1%. After 2005, RMB continued to appreciate.
According to the exchange rate between RMB and $, the economic growth rate of China was as high as 29.4% in 2008, but the real figure was 9.6% (Table 3.3).
Based on the two examples of the appreciation of the yen and the depreciation of the RMB, the premise condition of calculating
Table 3.3: Economic growth rate of China.
GDP (100 million
yuan)
Nominal economic growth
rate (%)
Exchange rate
Economic growth rate according to the
Atlas method (%)
1990 18668 3.8 4.78 −14.9
1991 21782 9.2 5.32 4.8
1992 26923 14.2 5.51 19.3
1993 35334 14.0 5.76 25.6
1994 48198 13.1 8.62 −8.8
1995 60794 10.9 8.35 30.2
1996 71177 10.0 8.31 17.6
1997 78973 9.3 8.29 11.3
1998 84402 7.8 8.28 7.0
1999 89677 7.6 8.28 6.3
2000 99215 8.4 8.28 10.6
2001 109655 8.3 8.28 10.5
2002 120333 9.1 8.28 9.7
2003 135823 10.0 8.28 12.9
2004 159878 10.1 8.28 17.7
2005 184937 11.3 8.19 16.9
2006 216314 12.7 7.97 20.2
2007 265810 14.2 7.60 28.8
2008 314045 9.6 6.95 29.4
2009 340903 9.2 6.83 10.4
2010 401202 10.4 6.77 18.8
2011 471564 9.2 6.46 23.1
2012 532872 13.0 6.31 15.7
2013 583197 9.4 6.19 11.6
2014 634367 8.8 6.14 9.7
Source: CEInet database.
Interpreting the Economic Scale of China 67
the GDP using the Atlas method is that the exchange rate must be relatively stable. The wide fluctuations of the exchange rate will inevitably overestimate or underestimate the GDP and thus lead to the misunderstanding of the operating condition of economies.
Comparing the GDPs of different countries using the Atlas method has the following specific preconditions.
First, a fully developed common market should be present among these countries.
Second, the market transaction should reduce the price variance.
Third, the statistical calibers of the GDPs of different countries should be identical.
Fourth, the exchange rates of different countries should be stable.
Clearly, Western countries meet these conditions so their eco- nomic data can be compared using the Atlas method. The GDP rankings of seven industrial countries can reflect their relative eco- nomic scales. China is still in the process of transformation from being a planned economy to a market economy, and some statistical calibers are different from those of other countries. Even if some statistical items have the same name, their meanings may be com- pletely different. In recent years, the exchange rate of China has constantly adjusted to the wide fluctuations. Therefore, the estimate of the GDP of China derived using the Atlas method will result in a great distortion. For these reasons, many people misunderstand the foreign trade situation in China.