China overtakes Japan as world's second-largest economy

A production line worker at a Shanghai factory.

China overtook Japan as the world's second-largest economy during the second quarter of this year, marking another milestone in the country's transformation from impoverished communist state to economic superpower.

With its red-hot economy growing at around 9% a year, some experts now expect China to outstrip the United States as soon as 2030, its financial strength carrying broad political implications.

Official data published today showed a faltering Japanese economy growing by just 0.1% in the three months to June, with GDP of $1.28tn (£826bn) eclipsed by China, which had economic output of $1.33tn.Although it is not the first time China has outpaced Japan in a single quarter, most economists now expect the emergent economy to end the year firmly ahead.

China's spectacular growth since Deng Xiaoping began to introduce free-market reforms three decades ago has seen it bounding up the world league of economic powers. Just 10 years ago, it was the sixth-largest in the world but has since outstripped Britain and France in 2005 and Germany in 2007. It overtook Germany as the world's largest exporter last year and also became the largest car market.

John Hawksworth, chief economist at PricewaterhouseCoopers, described the figures as a "symbolic" shift. He said: "Clearly it was inevitable, it was a just a question of when it would happen – just as it is pretty inevitable in the long run that it will be bigger than the US as well, because it has four times the population."

For now, China remains a distant second behind the US. The International Monetary Fund expects China's GDP to reach $5.36tn this year, while the US is expected to hit $14.79tn. The UK projection is $2.22tn. Japan is expected to have GDP of $5.27tn.

Nick Parsons, head of research at National Australia Bank, said the global financial crisis, which pitched more developed economies into recession, has underlined the shifting world power. "The Chinese economy has more than doubled in size in the past 10 years and will double in size again in the next 10 and I don't think the financial crisis has accelerated that change as much as it has cemented it," he added.

For Japan, the figures reflect the continued decline of a nation that has held the second spot since 1968, when it overtook West Germany, the result of a remarkable rise as a manufacturing and financial giant in the wake of the second world war.

But the "economic miracle" came to a juddering halt at the beginning of the 1990s when a property bubble burst. What followed was a lost decade in the doldrums and the country has never fully recovered. Today, it faces deflation, an ageing and shrinking population and only minimal growth.

Economists also cited the figures as evidence that the global recovery was still facing strong headwinds.

China's breakneck growth has not come without cost, causing huge social upheaval, including large-scale migration from the countryside to cities, which are growing at an unprecedented rate. Consultancy firm McKinsey reckons that China's urban population will almost double by 2025, when it will have 221 cities with populations of more than 1 million, compared with 35 in Europe. China has continued growing through the recession, in part owing to a $586bn stimulus package.

The headline growth figures also mask huge disparities of income in China, which has a population of 1.3 billion; the UN estimates that 300 million have been lifted from poverty since the reforms began, but while luxury boutiques spring up in Shanghai and Beijing, hundreds of millions still live in severe hardship, particularly in rural areas. Japan's people are still among the richest in the world, with GDP per capita of $39,700, compared with $46,400 in the US and just $3,600 in China.

The rapid advances in China have also led to environmental problems: in 2006, the country overtook the US as the largest emitter of greenhouse gases. This month, Beijing ordered more than 2,000 highly polluting, unsafe or energy inefficient plants to shut down within two months, underlining how the one-party regime can direct sudden change.

The growth of China has made it hungry for natural resources and energy, driving up the cost of commodities and raising the potential for conflict. It has been busy doing trade deals in Africa, Latin America and Asia, without the kind of human rights and reform demands often attached by the west. The US has already blocked an attempted takeover of an American oil firm by a Chinese state-controlled rival while Australia has prevented the Chinese buying mineral firms.

There are also concerns that the global economy has become unbalanced, with huge trade deficits between China and the developed world. China is said to make four-fifths of the world's toys and almost three-fifths of its clothing. Developed economies are hopeful that China will become a market for their goods and services as its consumer market grows, but at present it accounts for just 2% of UK exports. Critics in the US and Europe argue that China is benefiting unfairly because it keeps its currency, the yuan, artificially low, benefiting its exporters.

According to a different measure, using purchasing power instead of current exchange rates, China had already overtaken Japan.

Hawksworth said China's growth will begin to slow progressively to around 3.5% to 4% in 20 years' time. This is in part because of an ageing population, due to its one-child policy, as well as increasing pressures on wages and a growing reliance on domestic demand as exports slow. There have recently been a series of high-profile strikes at Honda and other factories in southern China, as workers demand better wages and conditions, while a series of suicides at Foxconn, which makes iPhones and other Apple products, has raised concern and led to higher pay.

But Hawksworth said the increasing political power that has come with China's economic growth was already apparent: "It is evident in a whole series of forums from Copenhagen and climate talks to the G20, that you can't really come to a sensible solution without giving considerable weight to China."