China's economic rise over Japan brings challenges

BEIJING - China is poised to overtake Japan as the world's second-largest economy, underlining its growing global clout but also highlighting the pressing need for a profound structural overhaul, experts say.

Japan has been number 2 behind the US economy for more than 40 years but China looks on course to supplant it as early as 2010, after claiming the titles of world's biggest exporter, auto market and steelmaker in recent years.

"China is approaching a crossroads," Patrick Chovanec, a professor at Tsinghua University's School of Economics and Management in Beijing, told AFP.

"It has reached a stage where the growth model that took it to here is no longer sustainable and it faces the same question that Japan did in the 1980s -- will it adapt or will it persist with the export-driven model."

In just three decades since opening its doors to foreign investment, China has leapfrogged Britain, France and Germany to become the world's third largest economy and, along the way, won developing countries a bigger say in the World Bank and International Monetary Fund.

But China's climb up the economic rankings has produced stark contradictions, most notably the widening wealth gap between the rich minority who can afford luxury cars and the hundreds of millions of poor, some of whom live on less than 50 cents a day.

So the export-reliant country urgently needs to find new avenues of growth by boosting its domestic demand, and help rebalance a dangerously skewed world economy, analysts said.

China came close to overtaking Japan in 2009 when its gross domestic product reached $4.98 trillion -- just behind Japan's $5.07 trillion.

Japan is due to release its first-half GDP figures on Monday. But according to one official in Beijing, China has already achieved the economic milestone.

"China is actually now already the world's second-largest economy," Yi Gang, a vice-governor of the central bank and head of the foreign exchange regulator, said recently without elaborating.

However, the yen's recent strength against a dollar beset by doubts about the US economy may have helped Japan stay above China in the first half of 2010 on a nominal basis, say some analysts.

Takahide Kiuchi, chief economist at Nomura Securities Co. in Tokyo, estimates Japan's nominal first-half GDP to stand at $2.647 trillion, using an average dollar exchange rate that saw the yen appreciate strongly towards the end of the January-June period.

This compares to China's first-half GDP of $ 2.53 trillion, calculated from government data and average monthly exchange rates given by the People's Bank of China.

The passing of the baton to China is inevitable, said Arthur Kroeber, managing director of the Dragonomics consultancy in Beijing -- but the far more important issue is the quality of its economic growth.

Policymakers need to take a stand against a growth-at-any-cost mentality that, according to Kroeber, "is still very alive throughout the government bureaucracy".

"In fact, insisting on that high growth rate (above 8%) may introduce more distortions into the economy and we really need to focus on how we improve the quality of growth," said Kroeber.

China has recorded double-digit growth rates for the past three quarters, but most economists expect a slowdown in the second half of the year.

Its resilience during the global financial crisis was underpinned by a four-trillion-yuan ($586-billion) stimulus package and a record 9.6 trillion yuan in bank lending, which policymakers have been winding back this year amid fears of overheating.

While claiming the title of number two economy may lift China's stature, the role also entails greater responsibility on the global stage, said Chovanec, noting its enormous trade surpluses over the United States and Europe.

"Once you become the second-largest economy in the world, those imbalances start to be very large in the global economy and can't be absorbed year after year," he said.

But the political will to make potentially painful decisions -- such as letting the yuan appreciate against the dollar -- has so far been wanting in Beijing, Chovanec said.

"China has succeeded so well that it may not recognize the need to change and adapt to the new circumstances created by its own success."

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