Economy

Inflation and consumption

By John Ross (chinadaily.com.cn)
Updated: 2011-05-18 11:20

The confusion between these two goals is simply shown. The countries that have the world's most rapid growth of living standards - that is the most rapid rate of growth of consumption - actually have among the lowest shares of consumption in GDP. This is because they have high rates of investment. Economies that have the highest shares of consumption in GDP are those such as Ghana, Uganda, Chad and Benin - which do not provide an economic model for China and which have low rates of growth in living standards.

The 12th 5-Year Plan correctly put as its priority the development of people's living standards, which is closely linked to consumption. President Hu Jintao put the conclusion that flows from this, for example in his recent speech at the Bao Forum: "We will ensure that consumption, investment and export contribute to economic growth in a coordinated way."

But this correct formula is being popularly presented in some cases as, what China has to seek is not the maximum sustainable rate of increase in consumption, that is to maximize the sustainable rate of growth of living standards, but to maximize the share of consumption in GDP.

This is a basic error in economic theory, but it becomes an error of economic policy when it translates into rates of increases of wages which are inflationary while the government's number one priority is to fight inflation.

The overall framework of China's economic policy is correct. The 12th Five-Year Plan is correct in making increases in living standards, and not purely GDP growth, its target. But confusion on issues of consumption and GDP growth is at present creating some difficulties in the fight against inflation.

Under conditions of inflation it is better to tackle the goal of increases in the share of consumption in GDP through, for example, changes in the tax system than via rates of increases in wages, which are inflationary.

John Ross is Visiting Professor at Antai College of Economics and Management, Shanghai Jiao Tong University. The views expressed here do not necessarily reflect those of the China Daily website.