Emperical Studies On The China’s Potential Output Based On Production Function Approach

This paper estimates the potential output and the potential growth rate of China from1978-2012through different econometric models based on the production function approach. Thepaper chooses the stock of fixed assets and the power consumption as the proxy for capital stockand then establishes models with either fixed or variable factor elasticities to estimate the Chinesepotential output and output gap in the period. The paper also does the estimation by establishingproduction functions for each industry to estimate the potential output respectively and thencombining the results to obtain the overall estimates of the potential output. Our results show thatthe model based on power consumption is the best in terms of projection; however, in terms ofidentifying business cycles, the fixed factor elasticity model has the highest value of goodness offit. Based on Okun’s law and the Phillips curve model, the model based on estimating eachindustry is better than the others. Besides, this paper finds that the large scale of investment infixed assets in China, reacting to the economic crisis, is not effective. The index of capital useefficiency is going down,showing that the capital investment didn’t pull up the potential outputgrowth in China in recent years. What’s worse, Chinese fixed asset investment pull effort on theeconomy has already reached the state of constant returns to scale, even reached the decreasingreturns to scale. In terms of the industry, Chinese agricultural production has been kept in a stablestatement for almost30years and is reaching the potential level, proving that Chinese agriculturalpolicy is effective. However, Chinese industrial production is moving towards the downturn phaseof a business cycle. This is also caused by Chinese rapid development of the third industry, whichis going to be China’s biggest industry. At last, the fixed parameter method tells us that the mainfactors influencing China’s potential growth rate is the total factor productivity because the risingor falling of thee total factor productivity have great correlation with the economic cycle.