A Study On The Return Rate To Capital With The High Investment In China

Since the reform and opening-up, China has achieved remarkable economic growth. In this process, high investment and high saving have played a important role. However, in recent years, the rising rate of capital formation in China, led to the scholars’ concerns about China’s over-investment and the sustainability of our economic growth. This dissertation argues that, the key to measure the existence of excessive investment depends on whether the return rate to capital in China has experienced a rapid decline. Since the conclusions of the existing literature are very different, this dissertation firstly surveys the relative literature, and finds that the controversy over the return rate to capital is mainly due to the different concepts and data processing. Some scholars tend to use the concept of micro-economic accounting margin, while others tend to understand the return rate to capital from the perspective of macroeconomic data.The debates on the return rate to capital based micro-economic data is mainly derives from the data processing methods in accounting as well as the authenticity of the data, while the debates on macroeconomic data focus on the estimate of capital stock. This dissertation holds that the return rate to capital based on macroeconomic data is more comprehensive, and it compasses all aspects of the economy much more better, so we choose it to be a measure of the return rate to capital.Firstly, following the method proposed by Bai et al (2006), and under the assumption that the durations of life for buildings and equipment in China are38and16years respectively, this dissertation calculates the rate of return on capital of various calibers. We find that, the base case estimate of return rate to capital fluctuates between15%-20%in most years, and there is no clear downward trend. Taking into account that the prices of capital goods and final products fluctuates quite distinct in different years, this dissertation further uses the alternative measures, which are the capital return excluding capital gains and the capital return which is calculated in1978constant prices.We find that these different measures are basically similar to the base case in most years and they are still fluctuating between15%-20%. Furthermore, this dissertation discusses several problems such as the attribution of Net Product Tax, statistical standards adjustment, and the processing methods of inventory and income tax. It reaches the conclusion that there is still no clear downward trend of the return to capital after these treatments. Therefore, there are solid microeconomic foudations behind China’s high investment.Secondly, this dissertation estimates the return rate to capital of China’s provinces in each year from1978to2010, and it find that the return rate to capital differs and presents very distinct change patterns between provinces. When we take our perspective on the regional level, we find that the eastern region has the highest return rate to capital, while the central region follows and the western region gets the lowest. The return rate to capital in the eastern region has declined very fast, while the trend in the central region is relatively gentler, and there is no clear downward trend in the west since the reform and opening-up, even more there are some provinces that their capital returns also rise. In addition, the return rate to capital appears significant beta-convergence both in country level and region level, which shows that the efficiency of capital allocation in China has improved.Thirdly, this dissertation examines the reasons for the change of the return to capital in China. It improves the decomposition method that proposed by Solow (1958) and find that the main reason for the change in China’s capital return is the own changes in return rate to capital due to different provinces (intra-provincial factors), rather than the flow of capital in the provinces where distinct return rates to capital exist (structural factors). On average, the contribution of intra-provincial effect is80.86%, while the structural effects only contribute19.14%. And in most years, the impact of structural factors on the rate of return on capital is positive, while the impact of the provincial effect of the rate of return on capital is negative.In order to investigate why the rate of return on capital would change differently in provinces, we decompose the changes of return rate to capital into the human capital factor, capital deepening factor and TFP factor based on the assumptions of perfect competition. The empirical results show that, on average, productivity and human capital increase the return to capital34.74%and11.96%respectively, the two add up to about46.70%, roughly equivalent to the negative contribution of capital deepening, which ensures the stability of China’s rate of return on capital. Then, we relax the assumptions of perfect competition, and find that total factor productivity still has a significant role in promoting capital return in pretty relaxed conditions. In addition, capital deepening, the increase in the share of the state-owned enterprises, the increase in exports, the rising proportion of the primary industry, the increase in capital goods prices and labor costs will reduce the rate of return on capital, in contrast, the increase in productivity, expansion of the scale of demand and the corresponding product prices, the rise of the proportion of secondary industry or tertiary industry will increase the rate of return on capital. Then, we verify the robustness of our conclusion from several perspectives, which is the measure methods of the variables, the outliers, the estimation methods and omitted variables, as well as the economic cycle and regional division.Finally, we use Panel Vector Autoregression Model (PVAR) and impulse response function (IRF) to analyze the relationship of four important variables, which are total factor productivity, return rate to capital, investment rate, and economic growth rate. This dissertation reaches the conclusion that the increase of China’s productivity has not only promoted economic growth but also enhance the return to capital, while the ascension of the growth rate will indirectly pull up the return to capital. Thanks to these two factors, China’s has high return to capital, which leads to the corresponding high investment. On one hand, high investment directly stimulating economic growth, and one the other hand, it promotes the technological progress and enhances the productivity by the effect of "learning by doing". As a result, the economy as a whole forms a virtuous circle of "high productivity-high return to capital-high investment rate-high economic growth rate". Therefore, China’s high investment at present has its rationality, and this growth pattern can be sustained as long as we maintain productivity increases by improving institutional reform and increasing investment in R&D.