Early last month in, "China’s Deficient Deflator Math Is One More Reason To Distrust Data [7]," we highlighted an FT piece which suggested that thanks to a lack of “robust statistical systems,” Beijing may habitually overstate GDP during periods of falling commodity prices by failing to completely account for changes in import prices in the calculation of its GDP deflator.
Effectively, the assertion is that China’s deflator simply tracks producer prices, and thus when import prices slide, the deflator understates domestic inflation and therefore overstates real GDP. In the simplest possible terms: when commodity prices are falling, China (and other EMs) may be routinely overstating GDP growth. Here’s an excerpt from FT’s original article [8]:
In the first quarter of the year, China’s deflator turned negative for the second time since 2000, coming in at -1.1 per cent. In comparison, consumer price inflation was +1.2 per cent. This means its inflation gap has jumped to 2.3 percentage points, even as it has fallen sharply in the likes of the US, as the chart shows. If the deflator is, as a result, understated, then real GDP growth is overstated by the same amount.
"A reasonable guess might be that true inflation was 1-2 percentage points higher than the deflator shows. In that case, real GDP growth in Q1 would have been 5-6 per cent [rather than 7 per cent]," said Cang Liu, China economist at Capital Economics, who added that the lower rate was closer to Capital Economics’ own estimate, based on activity data, of 4.9 per cent.
On Wednesday, China’s Q2 GDP printed right at [9] the Politburo-mandated 7% and while the entire world is now accustomed to goalseeked data from Beijing (attn WSJ: it's not a secret [10]) and has generally come to terms with the idea that in some quarters the figures may be flat out made-up, the deflator math issue poses a slightly more interesting question, as it points to a specific deficiency in statistical analysis (as opposed to relying on sweeping accusations about a generalized and endemic lack of transparency) and thus seems to merit a response from China’s National Bureau of Statistics.
Sure enough, the NBR directly addressed the issue on Wednesday. FT has the story [11]:
China’s National Bureau of Statistics on Wednesday rejected suggestions that the inflation gauge it uses is flawed and exaggerates the country’s real economic growth rate.
Before the release of Wednesday’s second-quarter gross domestic product estimate, China’s nominal GDP growth rate had plummeted from almost 20 per cent to 5.8 per cent since 2011, a much sharper decline than the inflation-adjusted figures that have trended downwards from 9.5 per cent to 7 per cent over the same period.
The difference between this year’s first-quarter nominal and real growth figures implied that the so-called GDP deflator — a broad measure of inflation that covers all types of goods and services — was negative, at -1.2 per cent, for only the third time in nearly two decades. That transformed the government’s 5.8 nominal growth figure into 7 per cent real growth — bang on Beijing’s growth target of “about 7 per cent” for the full year. But it also implied that China suffered from nearly unprecedented deflation in the first quarter.
Analysts calculate that [the deflator] has stabilised at 0.1 per cent [in Q2], compared with -1.2 per cent in the first quarter.
In other words, nominal GDP growth rebounded from 5.8 per cent to 7.1 per cent between the first and second quarters.
"The inconsistency between the GDP deflator and other price measures seems to have gone away in the second quarter, after having been rather extreme in the first quarter," says Andrew Batson at Gavekal Dragonomics, a Beijing research house.
Andrew Polk, resident economist at the Conference Board think-tank in Beijing, noted that there had been a similarly sharp upwards adjustment in the deflator between the first and second quarters of 2014.
Mr Sheng said the NBS had done "deiligent research" on doubts raised by other analysts about China’s deflator series, adding they had "a lack of understanding about our calculation methods".
"There is room for improvement," he said. "But in general China’s GDP deflator hasn’t been underestimated, nor has GDP growth been overstated. Both objectively reflect the real situation."
In other words:

So there you have it. After conducting "dilligent research," China has determined that its GDP data are an objective reflection of economic realities.
Any questions about the deflator series, the statistics bureau says, likely stem from a "lack of understanding about [Beijing's] calculation methods." Of course a bit of transparency would likely do wonders to clear things up, but when asked what the deflator was in Q2, an NBS spokeman declined to say, which only reinforces the general sense of mistrust that surrounds the quarterly data.
Perhaps China could learn a thing or two about how to respond to tough questions by observing US politicians...

