| Since the financial crisis China’s economic growth rate has been slowing down obviously. The growth rates of 2011-2015 reduced to 9.3%, 7.7%, 7.7%, 7.4% and6.9% respectively. Compared to the previous high speed of 10%, these real growth rates can be considered as medium-to-high speed growth. However, medium-to-high speed growth is a relative concept and there is still no clear quantitative definition.Along with China’s economy entering a new norm, the transformation from the old driving force of economic growth into the new one hasn’t been yet completed. And some uncertain risks have begun to emerge. China is under big economic downward pressure. So, what is the growth rate which China’s economy can achieve in the future? And how high is the potential growth of our country in the future? Potential output is the most likely output when an economy makes full use of all the resources and it is the maximum possible boundary of real output. Such growth rate, computed by potential output, is called potential growth rate. Measuring the potential growth rate will not only help the government make accurate judgment about the maximum of economy to run, but also provide valuable references for the formulation of the future economic development strategy and the current macroeconomic policy.Based on the literature review, this paper chooses the production function method to measure China’s potential growth rate. Significantly, human capital accumulation is the determining factor and the dynamical source of economy continuous growth and industry’s development. And China’s human capital had improved substantially in the past thirty years. Therefore, this paper includes the human capital stock as well as the traditional factors, such as physical capital stock,labors and technology progress. Physical capital and human capital are the two most important factors of production and the full use of the two factors does not mean that they reach the rational allocation. Based on MRW production function model, this paper has demonstrated that the optimal ratio of physical capital and human capital equals the ratio of output elasticity of two capitals on condition that the sum of two capitals remains unchanged regardless of the production function type with constant,increasing or decreasing returns to scale. So the maximum output can realized only when a country can make full use of all factors and allocate them in the optimal ratio.However, the utilization rate of factors is relatively complex and this paper neglects it to simplify the problem. So this paper proposes a new definition of potential output,the one realized when the ratio of physical capital and human capital reaches the optimal allocation ratio under the current factor utilization rate. This definition enriches the previous maximum output. And the potential loss or efficiency loss is the deviation of the actual output to potential output. This paper has made a new attempt to estimate the potential growth rate based on production function method.So far, there has not been any authority to release the data on the physical and human capital stock. Scholars’ estimates vary greatly due to their different methods.This paper adopts a new method to re-estimate the two capital stocks. For physical capital stock, this paper firstly derives the mathematical relationship among depreciation rate, capital-output ratio, formation rate of fixed capital and economic growth rate. Then it takes 10 depreciation amount as the calibrate points, which was in input-output tables released by the National Bureau of statistics. Assumed that there is the same average depreciation rate between the neighboring input-output-table years, 1987 is regard as the starting year because the input-output table in that year was the first one in China. And it estimates depreciation rates of different periods as well as physical capital stocks in each year forward and backward.This method ensures the accuracy of depreciation rate and physical capital stock series, since there are 10 input-output tables and corresponding depreciation amount as the calibrate points. The depreciation amount of calibrate years is fully consistent with that in input-output table so the estimated results are reliable. For human capital stocks, this paper chooses cost weighted method and makes some improvement as follows. Firstly, this paper expands the cost range of human capital investments including the direct educational expenditure, health care expenditure and culture and entertainment expenditure. That is because human capital attaches themselves to bodies and people need not only health care to maintain their health and physicalstrength but also self-learning or entertainment to maintain knowledge and skills updating. Secondly, this paper considers the educational investment lags and restores the real educational cost of the workers of each age with different educational levels.That is because some worker with a certain degree spent long time on education and there is time lag in the formation of human capital.Based on the above estimated factor data, this paper estimates the potential output, the potential growth rate and potential loss of China during 1978-2011 from the perspective of the rational allocation. The results show that two capitals’ output elasticity is 0.655 and 0.2589 respectively and the optimal ratio of them is 2.53,which is far lower than the ratio of two capital stocks. And the potential output curve is above the actual output curve and the gap between the two curves becomes bigger and bigger, which indicates that potential loss is positive and increasing. The total potential losses from1978 to 2011 reached 46.91 trillion RMB yuan and accounted for 15.33% of cumulative real outputs on the corresponding period. Further, this paper also predicts the potential output, potential growth rate and potential losses of China in 2015-2020. The results show that the average potential growth rate is 6.44%while the average real growth rate is 6.39%, which is lower than the potential growth rate by 0.05%. The total potential losses from 2015 to 2020 will reach 52.06 trillion which is higher than that from 1978 to 2011 by 5.15 trillion. This suggests that if the two capitals keep the previous growth rate, the mismatch between the two capitals will continue and the efficiency losses will go on and get bigger and bigger.The formed capital structure can’t be changed and it is practicable to adjust gradually during the capital expansion in the future. Finally, some suggestions are put forward to reduce the efficiency losses of allocation between two capitals. These include slowing the investment in physical capital and optimizing its structure,increasing educational investment and broadening funding sources, increasing health care investment to improve urban and rural medical services, strengthening research investment and cultivation of talents to improve total factor productivity, and so on.
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