Improving Ability to Scientifically Assess the Economic Situation

From: English Edition of Qiushi Journal Updated: 2011-09-20 11:47
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 Scientifically assessing the economic situation means using the basic stands, views and methods of Marxism to understand the laws for analyzing the economic situation and to analyze and study the subjective and objective environment, conditions, status and trends of economic operations in an objective, comprehensive and dialectical manner in order to obtain a correct assessment of the economic situation aided by mature basic theories and analytical tools of economics from a historical point of view. Correctly assessing the economic situation is not an end in itself; the ultimate objective is to make scientific policy decisions. In other words, understanding the economic situation helps to correctly decide on the basic orientation for macroeconomic regulation and to select the right timing, focus, strength and rhythm for regulation and helps in working out policy measures that are appropriate and effective. This is an important foundation for doing good economic work and also a necessary basic skill needed by every leading official. Looking back on our many years of experience, it can be seen that we need to be particularly adept at applying the following analytical methods in analyzing the situation by applying scientific principles in order to make good policy decisions.

 We need not only to look at the economic aggregate but the structure as well. In making analysis of the economic aggregate the most important thing is to understand the balance between total supply and total demand. This basic balance determines the situation in economic operation and the basic orientation of macroeconomic regulation. The state of total supply and demand is mainly reflected in a concentrated manner by the acceleration or deceleration of economic growth, increase or decrease of the scale of employment, increase or decrease of the overall level of prices and the state of the balance of international payments. These four important economic variables are in turn decided by numerous variables, specifically indices such as GDP and added value in the three industries that reflect total supply and investment, consumer spending and net export volume, which reflect total demand, as well as indices such as the money supply, which directly affect the balance of supply and demand. Analysis of these indices forms an important basis for assessing the balance of total supply and demand as well as important basis for deciding the orientation of related economic policies.

 Structural analysis is carried out mainly to show the relationship between the various agents, components and links in the national economy as well as their impact on overall economic operation. The economic structure is multi-faceted and multi-layered. The structure of demand, the structure of supply and the structure of factors are particularly important facets of the structure. With regard to the structure of demand, we need to mainly examine whether there is an appropriate balance between internal and external demand and between investment and consumer spending, and changes in structure and the reasons behind them, and then decide whether the structure of investment and consumer spending and the structure of imports and exports are appropriate or not. With regard to the structure of supply, we mainly need to look at whether the structure of the three major industries and the structure of other industries are appropriately balanced and whether the organizational structure, the product structure and the layout structure in each industry are appropriate. With regard to the structure of factors, we mainly need to look at whether the input structure of human resources, science and technology and material resources in the course of production is appropriate. In addition, we need to look at factors such as the regional structure, the urban and rural structure and the distribution structure. Through analysis of these structures, we can enrich and deepen our understanding of the economic aggregate and see clearly the mechanism behind the model of economic growth and changes in the situation and uncover deep-rooted contradictions and problems in economic operation and improve the appropriateness and effectiveness of our policies.

 Through many years of experience we have learned that sometimes the problem of structure is even more important than the problem of the economic aggregate. One, a normal economic aggregate does not mean that there is no problem in the structure. Taken as a whole, the four major regulatory objectives for China’s national economy in the 2003-2007 period were within the target range but there were still some unsuitable areas in the structure of demand and in the industrial structure. Two, problems in the economic aggregate may be triggered by structural issues. The overheating of the economy and serious inflation in China’s economy during the past 30 years were all reflections of the fact that total demand exceeded total supply. The important reasons for this were the fact that there was an excessive expansion of investment compared to the level of consumer spending and the problem of slower development of agriculture in the structure of the three major industrial sectors has gotten worse. Three, the quality and efficiency in the growth of the aggregate economic volume is determined to a large extent by how much improvement is made in the economic structure. Therefore, structural analysis is an important basis for assessing the sustainability, quality and efficiency of economic development.

  This diagram shows that the World Bank raised its forecast for China’s economic growth in 2010 to 10% (November 3, 2010).  / Released by Xinhua

 We need to watch both the macro economy and the micro economy. In macro analysis, we need to focus on the makeup of the economic aggregate of the national economy, and whether it is balanced and where its development is headed, and watch the interdependence and interaction between the whole and the various sectors and among the sectors. We need to understand the overall situation and the basic trend of the economy and determine whether macro regulation and control policies are too tight or too loose in their totality through comprehensive analysis of total supply and demand and macroeconomic variables such as consumer spending, investment, imports and exports, government revenue and expenditures and the money supply. Therefore, macro analysis is the basis for macroeconomic regulation.

 Micro analysis focuses on the behavior of enterprises, the behavior of consumers and the situation in some representative regions and industries. Micro analysis can help work out macroeconomic policies, form the basis for formulating microeconomic policies and make policies more focused and effective. In addition, micro analysis can spot the first small beginnings of issues and trends that could affect the overall situation. Although overall the Chinese economy was growing quite rapidly in the second half of 2008, in the coastal areas, which are very open, quite a few export-oriented enterprises were beginning to sense the impact of the international financial crisis. It was just in this period that the leaders of the CPC Central Committee and the State Council uncovered the key information that predicted changes in the overall situation. After carrying out intensive inspections, they promptly and correctly assessed the situation, worked out resolute policy decisions and took the initiative in successfully coping with the impact of the international financial crisis.

 Micro analysis is the foundation of macro analysis and macro analysis is an indicator for micro analysis. We must correctly understand the macro situation and keep an eye on the overall situation and pay particular attention to understanding the relations between the economy as a whole and the individual sectors and among the sectors themselves in order to clearly assess the position and development of regions, industries and enterprises, better help them adjust to their individual conditions to choose correct strategies and policies for development and promote sustainable and healthy development. People in some localities, industries and enterprises not only lack experience in dealing with changes in the economic situation and the major issues in macroeconomic operation but are also not good at understanding the microeconomic situation under macroscopic guidance. This has been an important reason behind the serious surplus in production capacity in some industries. If every locality were to analyze and make policy decisions only from their own perspective and ignore the fact that there is a national surplus in production capacity, in addition to worsening the excess capacity, such action would distort the division of labor among regions. There would inevitably be consequences and a heavy price to be paid for ignoring the natural laws.

 We need to look at not only the situation at home but also abroad. In analyzing the impact of the international economy on the domestic economy we need to focus on the key areas, particularly the key links and important fields in which the domestic and international economy deeply intermingle and greatly interact. One, we need to pay close attention to the situation in the major economies of the United States, Europe and Japan. The economic trends in these three major economies basically determine the development trends of the world economy and global trade and to a large extent determine the basic situation in China’s foreign trade. With the pattern of China’s foreign trade becoming more diverse at an accelerated speed, we also need to improve analysis of the economic trends of developing countries, particularly the trend in the emerging market economies. Two, we need to pay close attention to the possible impact on China from adjustment of the macroeconomic policies of the major economies of the world. The macroeconomic policies of the economies of the United States, Europe and Japan directly impact the economy of the whole world and are reflected in capital flows, commodity trade, the prices of bulk commodities and interest rates. Three, we need to pay close attention to the trend in the development of industries and in science and technology in the world. We need to closely follow changes in the industrial structure of the major developed countries and the general trend in the international division of labor and keep up with the development trend of new skills and new industries to accurately identify the global strategic position of China’s economic development in line with China’s strategic needs and our own strengths. Four, we need to pay close attention to the international financial market. We need to closely follow the trend in exchange rates and interest rates of the principal international currencies of the US dollar, the Euro and the Japanese yen and pay close attention to the general trend in the international stock market, the bond market and the futures market and closely follow the flow of international hot money and the flow in and out of Chinese territory and assess the overall impact brought by these changes to China’s trade environment, capital market, monetary policies and fluctuations of exchange rate. Five, we need to pay close attention to the bulk commodities market. We need to give full consideration to the objective reality of China’s heavy reliance on the outside world for energy resources and raw materials and the major effect of the international market and closely follow the supply and demand situation and the trends in the prices of grain, crude oil, iron ore and non-ferrous metals and comprehensively and scientifically assess the impact of supply and demand and changes in the prices of bulk commodities on the international market in terms of price level, production cost, inflation expectation and economic security. In addition, we need to pay close attention to the impact of changes in the international political environment on China.

 We need to watch both the real economy and the virtual economy. Analysis of the economic situation usually focuses on the real economy by studying material production and distribution and consumption of products. The virtual economy is generated by the real economy but separate from it. It is controlled by development of the real economy and at the same time relatively independent of it and affects the real economy. Therefore, the state of the virtual economy and its impact on the real economy have also become important factors that must be considered in analyzing the economic situation and in working out economic policies, particularly monetary policies.

 In examining changes in the virtual economy and how they affect the macroeconomy, we need to focus on five areas: One is the impact on the supply and demand of funds. When the capital market is on the rise, it is easy to raise large amounts of funds for enterprises. When the capital market is on the downturn, the channels for raising funds for enterprises become narrower and can even land enterprises in financial difficulties. The rise and fall of the capital market also leads to flows of funds in and out of the real economy. Two is the impact on prices. Futures can function to indicate changes in prices but they are also easily speculated. The current international market prices of commodities such as petroleum are mainly dominated by the futures market. Following and analyzing changes in the prices of these commodity futures helps in studying and assessing the global supply and demand as well as the influence of the pressure from imported inflation. Three is the impact of wealth. When the stock market is on the rise, the value of stocks in the hands of the people will clearly rise and the total amount of nominal wealth will markedly increase resulting in increased consumer spending and increased consumer demand. When the capital market is on the downturn, there is a negative wealth effect that inhibits consumer spending. Private investment in the property market has a similar nature. Four is the impact on psychological expectations. In spite of the fact that the rise and fall of the stock market does not correlate in a simple way with the fundamentals of the real economy, such changes to a certain degree reflect the market expectations for the future, particularly expectations for changes in policies. Psychological expectations such as these will also produce an impact on the real economy, and sometimes even an enlarged impact. Five is the impact of a speculative and destructive nature. Past experience with the capital market has shown that the leverage function is the mechanism of its operation and speculation is an important feature of its operation. Driven by leverage and speculation, a huge volume of funds is absorbed and flows of funds are extremely unpredictable. This has greatly increased the risk of fluctuation in the macroeconomy and difficulty in implementing monetary policies.

 We need to watch both the current situation and future trends. In analyzing the economic situation, we need to not only watch closely the “state” of economic operation but the “tendency” of economic development as well. Improving trend analysis will enhance our foresight and strengthen our initiative in macroeconomic regulation and help us to carry out regulation in a timely manner. In making analysis of the current state, we need to adhere to both “the theory of two points” and “the theory of key points.” We not only need to prevent “not seeing the forest for the trees” by making analyses that are too detailed and unfocused but also be good at understanding the fundamentals of economic operation by sampling from the “mainstream” of economic operation out of the great volume of complicated data in order to correctly decide on the strategic orientation and focus of economic work. In analyzing the current state, we need also to pay attention to the distinction between nominal increases and actual increases. In analyzing the economic variables of investment, consumer spending, income and import and export volume, we need to reject the price-affected factors in order to ensure we can get an accurate picture of the actual situation and avoid poor assessments. 

 Even more important than understanding the current state, and more difficult as well, is recognizing trends in economic situation. Through many years of trial and error we have worked out a number of important methods for ensuring accurate forecasts. First is to ensure good link-relative analysis. Indices calculated in the year-on-year analysis reflect a comparison between the current month and the same month of the previous year, showing the change that has occurred in the economy in 12 months. This does not reflect the most recent changes in the economy, however. The indices of link-relative analysis reflect changes that have taken place between the current and past month and often have the advantage of reflecting economic trends sooner. Particularly in a period of rapid changes in economic operation, the indices of year-on-year analysis and the indices of link-relative analysis may exhibit opposite trends, and we may easily make a mistake if we only look at the numbers from the year-on-year analysis. Second, we need to work more on incremental analysis. Incremental changes are important signals that can indicate changes in trends. In examining whether available non-government funds are sufficient and whether fluidity is in excess of demand, we need to look at not only the balance of bank loans, but also the size of new loans; in examining the employment situation, we need to look at total employment, but even more importantly we need to look at the newly added economically active populations and the number of new jobs provided by economic growth. Third, we need to improve analysis of leading indicators. Leading indicators change before a change occurs in the overall macroeconomic situation and therefore can predict trends in economic operation. New orders for consumer goods and raw materials, the currency supply, level of sensitive prices, the volume of freight and electricity consumption are all leading indicators. Summarizing the laws governing changes in these indicators is very important in assessing trends in economic operation. Fourth, we need to improve our study and assessment of turning points. A turning point in an economic cycle is the peak value of the economy when it changes from improving to declining or the low point of the economy when it changes from declining to improving. Timely and accurately assessing the position of turning points is of great importance for forecasting economic trends. 

 We need to make short-term as well as long-term analysis. Analysis of the economic situation generally refers to a short-term analysis, i.e. monthly, quarterly and annual analysis. In making short-term analysis we mainly are looking at the current state of economic operation, particularly looking at new situations and new problems that have been exposed. In making long-term analysis we are mainly looking at the basic trend in the economy and observing the inevitability and the law of economic fluctuation. Carrying out good short-term analysis in the framework of long-term analysis may enable us to accurately understand which factors leading to short-term changes in economic operation play a temporary role and which play a longer-term role. Carefully carrying out both short-term analysis and long-term analysis will not only help us with our long-term strategy in solving short-term problems but also help us make our policies more focused and flexible while carrying out long-term strategy, finding appropriate solutions to short-term issues to maintain long-term, sustainable and steady development of the economy.

 In integrating short-term analysis with long-term analysis we need to pay special attention to three long-term factors. One, we need to understand the special periodic nature of economic operation. Economic operation often presents as periodical cycles and changes, first growing, then slowing down and even declining and then growing again. Judging whether the economy is in an ascending period or in a descending period is an important part of assessing the economy as well as an important basis for determining the strength of macroeconomic regulation. On the other hand, the same economic variable will present different characteristics and trends at different periods of the economic cycle and we also need to observe them in terms of the economic cycle. For instance, since the second half of 2009, China’s overall price level has been mostly declining. The level of consumer prices dropped 0.7% over the year and it didn’t seem necessary to worry about inflation. But, we still very much needed to keep an eye on rising prices since the economy was in an ascending mode and that the scale of credit was big, prices of commodities on the international market were rising, consumers had stronger expectations for rising prices and some unreasonable prices needed adjustment. Two, we need to pay close attention to the nature of the economy in different stages. This helps us to objectively and rationally understand the various economic phenomena and economic relationships. For instance, China at the moment is in a period of accelerated industrialization and urbanization, which has inevitability led to an increase in investment. At the same time, resource issues are presenting a most serious problem and if investment is increased too rapidly it could seriously worsen resource and environment concerns. A good understanding of this period will enable us to choose investment policies that will lead to continued rapid growth of investment, avoid large growth of investment where conditions do not warrant and place the focus on improvement of the structure and raising efficiency. Three, we need to fully understand the laws of the economy. Laws of the economy play a long-term role in the economic phenomena. We must be adept at discovering and summarizing the laws of economic development in China, be adept at analyzing and assessing the economic situation with those laws as the guide and be adept at spotting and understanding short-term trends in the economy.

 We need to do both qualitative and quantitative analysis. Qualitative analysis mainly reveals the qualitative prescription of economic operation or economic phenomena and helps in assessing the basic general features of the economic operation or the basic features or basic situation for certain economic phenomena in order to determine the orientation of macroeconomic regulation. Qualitative analysis is a process in which we first gain a perceptual knowledge of an economic phenomenon, then we make use of the existing theoretical framework and experience to carry out a logical analysis and historical comparison and make a rough assessment of the economic phenomenon. 

 Through quantitative analysis we can verify and quantify the initial results of qualitative analysis and form an accurate judgment. In this sense, quantitative analysis is an important support for qualitative analysis. In addition, quantitative analysis has also independent functions and may reveal the “degree” of economic variables and economic relationships. “Excess” or “deficiency” may change the nature of economic variables or economic relationships and thereby provide the basis for scientifically understanding the strength of macroeconomic regulation. Through our many years of experience in dealing with economic matters we have deepened our understanding of the “degree” of macroeconomic regulation on the basis of quantitative analysis. For instance, an inflation rate of about three percent is considered fairly mild and keeping the registered unemployment rate within 4.5% is good for economic and social stability. 

 There are also limitations and even “traps” in quantitative analysis. The quality of quantitative analysis is determined by the reliability of the data, correctness of the methods used and the appropriateness of their use. If the data are inaccurate or the methods are defective or improperly used, a divergence of the slightest fraction could mean a huge error in the results. Therefore, in making quantitative analysis, first of all, we need to make an analysis of the quality of the data and in particular, we need to cautiously treat data that are easily distorted. Second, we need to scientifically determine the assumptions and parameters. The results of quantitative analysis may be misleading if an assumption is unreasonable and the parameters are incorrectly chosen. Third, we need to correctly understand and rationally use data. While some quantitative indices can reflect an economic phenomenon they may also cover up conditions and problems in other areas. For instance, the growth rate of GDP is an index of overall economic performance that cannot reflect problems in the economic structure. It is an index that reflects output and therefore can not reflect costs and distribution structure. We need to pay more attention to the variations behind the various “average numbers.” For instance, the average wage of workers may reflect the overall wage level but can not reflect gaps in income among different groups.

 We need to do both vertical and horizontal analysis. Vertical analysis is “looking ahead into the future and back into the past,” viz. making internal comparison. This can be a comparison with a time in the past or with a certain selected time period. By making a vertical comparison we can determine whether the present speed of growth is high or low or has accelerated or slowed down compared to past performance, gauge the size of the impact of policies, determine whether problems in economic operation are growing or fading and determine whether the overall situation has improved or worsened.

 Horizontal analysis is “looking right and left,” viz. comparing one’s own situation with that of others. This includes comparison with the same indices of other economies as well as comparison with one’s own relevant economic indices. Through horizontal comparisons between nations we can more accurately understand the level of China’s economic development and the period it is in and the size of the gaps. For instance, the size of China’s economy is ranked third in the world, but there is still a big gap between China and the United State, which has an economic scale of US$14 trillion. The gap is even bigger for per capita GDP. Through comparison of the relevant economic indices we can examine whether economic relationships are balanced or not. For instance, there are internal links between GDP and total amount of electricity, volume of freight and energy consumption. We can make a horizontal analysis of these indices to detect changes in the quality, efficiency and structure of economic growth and the cost of growth.

 We need to keep track of economic phenomena, but it is even more important to examine their basic nature. Economic phenomena are the external expression of the internal laws of economic operation so we must always keep in mind economic phenomena when trying to understand the economic situation. If our efforts were to stop at understanding the phenomena the analysis would be superficial and a correct assessment would be unlikely. In making economic analysis, we must proceed from the surface to the interior to reveal the reasons behind phenomena, uncover the inner links between phenomena and understand the laws governing the emergence and development of the phenomena so we can truly make correct assessments of economic trends and formulate policies that can be effectively implemented and treat both principal and secondary aspects of problems. The changes in prices of petroleum provide an example. Since the second half of 2007, the price of petroleum on the international market has been on the rise, going from US$49.90 per barrel in January of 2007 to a historical high of US$147 per barrel on July 11, 2008. In analyzing the reasons for this rise we found that on the one hand the rigid growth in the demand for petroleum and the continuous rise in the cost of recovery and refining, which have been operating steadily for a long time, determine the basic trend in the price of petroleum and indicate that the time of low petroleum prices is over. On the other hand, pure growth in demand and cost factors will not lead to a drastic rise in the oil price. Global surplus fluidity of funds, speculation by funds, devaluation of the US dollar and non-economic factors such as geopolitics during this period aggravated the situation. These factors have a strong random and instable nature, however. Through such analysis we can reach an essential understanding and objective assessment of the trend in petroleum prices. Increase in the price of petroleum is inevitable, but an excessive rise is unsustainable and big rises and falls are difficult to avoid. Because of this, in adjusting domestic oil prices we must take into consideration factors in the international market, but we can not simply depend on them to fix domestic prices, which would lead to violent fluctuations in the domestic economy. On the basis of this understanding, we have implemented a policy of a regulated linking of the domestic prices of oil products with those of the world, and time has shown that this orientation is correct.

 We need not only to make analyses but summaries as well. The nine methods above are all important in carrying out analysis of the economic situation. In addition, there are many other methods that could be applied such as equilibrium analysis and unequilibrium analysis, analysis of economic factors and analysis of non-economic factors, and normative analysis and empirical analysis. All analytical methods look at economic operations from just one angle or one aspect. But if we only analyze only one aspect or only analyze several aspects separately, we would not be able to see the links between different parts, levels and aspects of the economy and could not correctly and fully understand the economic operation. Therefore, we need not only to be adept at making analyses but also at making summaries, piecing together and combining various aspects and different angles of economic analysis to form an objective, accurate and complete understanding of the situation and the essential features of economic operation. This provides the basis for making scientific economic policies. The process of the CPC Central Committee and the State Council of China working out and promulgating a series of important policies and measures to cope with the international financial crisis since the second half of 2008 is the best example of how we work, starting with analysis and summary, and then going on with analysis and summary on a higher level. Comprehensively and thoroughly summarizing the lessons learned in coping with the international financial crisis is of great importance for raising our overall level of analysis and assessment of the economic situation and economic work, improving our ability to handle all kinds of complicated situations with ease and promoting sound economic and social development.

(From Qiushi, Chinese edition, No.13, 2010)

Note: Author: Member and Secretary General of the State Council of the People’s Republic of China

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