News that China’s economy will soon be larger than that of the United States by one measure has caused a bit of a kerfuffle. The source: a recent recalculation of gross domestic product in terms of purchasing power parity (PPP) by the International Comparison Program (ICP). These recalculations are for 2011. But simple extrapolation shows Chinese GDP overtaking the United States’ this year.
What is purchasing power parity? At some simplification, it is an effort to capture domestic price differences between countries. The alternative is calculation of GDP at current exchange rates. This simply multiplies a country’s GDP in local currency by its exchange rate (usually with the U.S. dollar.) But the latter measure — in addition to being subject to volatility as exchange rates fluctuate — ignores the fact that many goods and (especially) services are not traded internationally. (You cannot export a haircut.) As a practical matter, many of these goods and services tend to be cheaper — sometimes much cheaper — in developing countries like China. This means that the actual standard of living is higher than an exchange rate-based GDP measure would suggest.
Using the ICP’s PPP estimates, China’s GDP today is roughly the same as the United States’. Its GDP at current exchange rates is a bit more than half of ours.
There are advantages and disadvantages to comparing economies using purchasing power parity as opposed to current exchange rates. As noted, PPP likely captures living standards more accurately; an exchange rate measure — particularly if averaged over a number of years to avoid at least some volatility — probably gives a better sense of a country’s importance in global markets. Both measures are imperfect; both measures are useful.
In the medium term, however, China’s GDP will almost certainly overtake the United States’ by any standard metric. This should not be surprising. China has four times the population of the United States. It has been growing at a much faster rate. Barring a protracted and sharp decline in China’s growth rate, it will sooner or later overtake the United States. (Even then, however, China will be a much poorer country than the United States on a per capita basis.)
The ICP also reports sharply increased PPP GDP for other major developing countries. According to its calculations, in 2011 India had the world’s third-largest economy (ahead of Japan’s), Brazil the world’s seventh-largest (ahead of France), and Indonesia the world’s tenth-largest (about the same as Italy’s).
The takeaway: The U.S. is still “No. 1” in terms of national GDP at current exchange rates, though China is very likely to supplant us sooner rather than later. This is no cause for panic. We will remain — long after China’s GDP exceeds our own — the world’s preeminent power by virtue of our military superiority, our array of durable alliances and our leadership in international institutions. But China is catching up economically. So are other major developing countries. And their economic power will, in time, be reflected in the military and diplomatic spheres. Whether they will continue to accept the current Washington-centered world system is far from clear. Much depends upon internal political developments, particularly in China, but also here in the United States. We like being “No. 1.” We like it a lot. Indeed, being “No. 1” is an intrinsic part of our national identify. Substantial power-sharing with emergent powers will be very difficult — even painful — for American policymakers and citizens deeply invested in unchallenged U.S. dominance. One thing is certain: the slow shift towards an uncertain multipolar world is underway.
Joe Barnes is the Baker Institute’s Bonner Means Baker Fellow. From 1979 to 1993, he was a career diplomat with the U.S. Department of State, serving in Europe, Africa, the Middle East and South Asia.