For many years China experienced extremely rapid economic growth, with its GDP often growing by more than 10% in a year. In the last few years its growth has slowed a bit, and the International Monetary Fund (IMF) projects that its growth rate will fall to 7.3% next year and 6.5% by 2019. While this is a substantial decline from some of its sky-high growth rates in previous years, these numbers still represent very rapid growth. By comparison, US economic growth has averaged less than 2.5% per year during the past 5 years.
But can China continue to grow so quickly? New research from two Harvard economists, Lant Pritchett and Larry Summers, suggests that China’s growth rate may fall more than the IMF projects. They find that how much an economy has grown recently doesn’t tend to have much impact on how much it grows in the future. Their calculations show that China’s growth rate is likely to average less than 4% over the next 20 years.
There’s only a weak link between a country’s economic growth rate and how well its stock market performs, so a slowdown in China doesn’t necessarily spell doom for Chinese stocks. It’s very plausible that Chinese stocks could do well even if the country’s economic growth continues to slow as the IMF projects.
But part of the reason the link is so weak is that investors can anticipate when the growth rate is going to increase or decrease and “price in” this change before it actually occurs. It’s unlikely that investors have already priced in a decline in the Chinese growth rate as dramatic as the one Pritchett and Summers project. If their pessimistic forecast comes to pass, the performance of Chinese stocks is likely to suffer.