assess what factor accumulation and total factor productivity (TFP) have contributed to growth. Heytens and Zebregs (2003) summarize these studies, which includes Chow (1993), Hu and Khan (1997), and Wang and Yao (2002)). Although estimates differ because of variations in assumptions, the studies have converged on several findings. TFP growth has contributed significantly to GDP growth, having increased since the introduction of reforms at the end of the 1970s. Estimates of TFP growth during the reform period range between 2 and 4 percent per year. However, the contribution of physical capital accumulation has been large and growing, reflecting a high and increasing investment to GDP ratio. Consistent with slowing overall employment growth, the contribution of labor growth has been modest, especially over the last decade. Using “consensus assumptions”, Kuijs and Wang (2005) did such an exercise for 1978-2004 and found similar results.<sup>3</sup> They found that, compared to 1978-1993, in 1993-2004 the contribution of capital accumulation to GDP growth increased, as the capital–output ratio rose from an estimated 2.2 in 1994 to an estimated 2.8 in 2004, reflecting the rapid investment growth in the last decade, while TFP growth came down.

Revised GDP data do not really change the picture. In end-2005, China’s National Bureau of Statistics revised production-side GDP, largely as a result of better coverage of the service sector. 2004 GDP was revised up by almost 17 percent. Redoing the Kuijs and Wang growth accounting with the new data, now for 1993-2005, the contribution of capital accumulation to GDP growth would change little, in large part because 2/3rds of the GDP revision took the form of higher price increases.<sup>4</sup> On the basis of the new data, the contribution of capital accumulation was 60 percent, rather than 62 percent, while TFP growth would be 3 percent, instead of 2.7 percent (Table 1).

A useful alternative way of looking at these trends is to decompose labor productivity growth.<sup>5</sup> During 1993–2005, labor productivity rose by 8.4 percent per year on average, whereas employment growth declined to just over 1 percent a year. With investment as a share of GDP rising significantly in this period, the contribution of increasing capital intensity to labor productivity growth rose to two-thirds and the contribution of TFP growth declined (Table 2).

# **II.2. The largely domestic origin of financing of investment**

Ample domestic saving means that external financing plays a modest role.

There is little doubt that foreign direct investment (FDI) played an important role in China’s transition, rapid development, and opening up, in particular in transferring foreign technology. FDI into China constitutes a large share of total FDI into emerging

> 3 Assuming Cobb-Douglas technology, and a capital–output ratio of 2.4 in 1978 (as in Wang and Yao, 2002; Chow, 1993; Hu and Khan, 1997), depreciation of 5 percent per year (as in Wang and Yao, 2002), and an elasticity of output with respect to labor of 0.5.

> 4 Pending revised expenditure data, it is assumed that 15 percent of the increase in GDP was contributed by investment. The February 2006 World Bank Quarterly Update on China discusses the revision and its implications.

> 5 Using the Cobb-Douglas production function underlying the growth accounting,  labor productivity growth can be decomposed into TFP growth and a term capturing the increase in the capital–labor ratio).

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