The Financial Times has a new piece on the Chinese economy, which contains a graph showing the striking shift toward a service economy:

Screen Shot 2016-01-17 at 5.47.21 PM.png

However Gavyn Davies suggests that this graph is misleading, and also provides a graph showing the shares in “real” terms:

Screen Shot 2016-01-17 at 5.47.39 PM.png

I put “real” in scare quotes for a reason, any data on share of GDP is already real data, and has no need to be adjusted for changes in the price level. The nominal share of GDP shows the share of economic activity devoted to the industry in question. In this case, the divergence probably results from much faster productivity growth in industry than services. Unfortunately, Davies seems to miss that point in this passage:

The optimists point to the rise in the share of services in nominal GDP, and the corresponding decline in industrial sectors, as shown in the above left graph. Measured in current prices, the rebalancing appears to be well underway, with the share of industrial sectors falling from 47 per cent in 2011 to 40 per cent now.

However, almost the whole of this rebalancing in nominal terms has occurred because of a large drop in the relative price of industrial products compared to services. In real, inflation adjusted terms (above right graph), there has been no rebalancing whatsoever in the past decade taken as a whole (though there has been a percent or two in 2014-15). The needed shift in real resources – labour and capital – out of the moribund sectors has therefore barely started.

No, labour is rapidly being shifted from agriculture and industry to services, where productivity is growing more slowly, and this will continue for many more decades.

That doesn’t mean all’s well with the Chinese economy, I think Davies is exactly right on this point:

The key question is whether China can restore confidence in its exchange rate policy, not least among its own citizens. For as long as a renminbi devaluation of unknown size continues to overhang the markets, an abatement in capital outflows, and a return to stability, seems difficult.

It is even possible that the event that markets most fear – a controlled depreciation of 10 per cent or so – might be the only way of restoring calm, if accompanied by other reforms. Until the renminbi is deemed by the global financial system to be at a sustainable level, fear of disruptive change will dominate sentiment.

The PBOC does not seem to agree.

Maybe they’ve been influenced by BIS warnings that “easy money” will lead to bubbles. In any case, the PBoC needs to ease monetary policy, by setting the exchange rate at a more realistic level.

HT: Tyler Cowen