Is China's GDP Overstated?

In a new report out this week, Macquarie Research analyst Weijun "Larry" Hu took readers back to algebra class to show that, contrary to the fears of some analysts, China’s GDP deflator is not responsible for a 1–2 percent error in the country’s Q1 GDP growth estimate.

According to Hu, the common belief that China’s method of calculating GDP estimates does not properly account for the impact of import prices is a misconception.

Production Approach

China calculates its GDP differently than the U.S. does and uses what is called the “Production” approach. Under the Production approach, GDP is calculated as the sum of all value-added (VA) of each of the different industries in the domestic economy.

When calculating real VA for each industry, the nominal VA must be divided by a deflator, as seen in the following equations.

While certain analysts have claimed that import prices play no role in this calculation, Hu explains that they are indirectly incorporated. “Lower import prices would be reflected in lower input prices, which are used to deflate nominal input value to real value,” Hu explained.

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Not Necessarily Accurate

Hu clarifies that he is not claiming that China’s GDP number is accurate, he is simply claiming that it is not off by up to 2 percent because it completely ignores import prices. While the number could be inaccurate for any number of other reasons, Hu believes that the error in the calculation is no more than 0.4 percent for Q1.

Look To Nominal GDP Growth

Instead of relying on China’s real GDP numbers, Hu advises investors to focus on nominal GDP growth. Not only are nominal GDP numbers not subject to inaccurate deflator issues, nominal GDP is more closely correlated to corporate earnings than real GDP is.

Image Credit: Public Domain