Economic growth in the People’s Republic of China (PRC) has moderated over the past decade, even before the coronavirus disease (COVID-19) pandemic. A critical question is to which level of gross domestic product (GDP) growth the country will return to after COVID-19 and how its long-term growth prospects are, given its rapidly aging society, a continued dependence of growth on investment, and a changed international environment.

This paper estimates the country’s potential GDP growth up to 2040 based on a Cobb-Douglas production function, estimating all input factors separately with newest available data. Many assumptions in the past, e.g., on the demographic development, have often been too optimistic, resulting in inflated growth estimates. According to our estimate, potential GDP growth averages 5.3% in 2020–2025, declining gradually to 2.0% in 2036–2040.

Compared to three earlier papers that also use the production function approach (each using different specifications)—Bailliu et al. (2016), Roberts and Russell (2019), and Higgins (2020)—our estimate of future potential growth is lower than Bailliu et al. (2016) and closer to the other two.

Our estimates of the different input factors allow us to analyze the drivers of the growth moderation and to use these insights for policy recommendations. Capital and total factor productivity (TFP) are identified as the major contributors to growth in the future. Meanwhile, a shrinking working-age population will increasingly weigh on growth, while the contribution of human capital to growth is comparatively small.

To increase potential growth, this paper suggests reforms in four areas—labor, human capital, capital, and TFP: Labor. Given rapid demographic aging, mitigating the impact of the declining labor force is key. One measure is to raise the retirement age, in particular the actual average retirement age that is in the mid50s. Other measures to cope with an aging working force include improving health care, raising female workforce participation rates, and increasing labor mobility.

Human capital. The PRC has room to catch up with advanced economies in both years of and quality of education, especially in rural areas. Furthermore, education can be improved by expanding early child development, enhancing the quality of tertiary education, strengthening technical and vocational education and training, and increasing on-the-job training.

Capital. Changes to the allocation of capital and credit are considered to be one of the biggest factors to raise potential growth. State-owned enterprise (SOE) reforms are needed. This requires clarifying SOEs’ scope and function, leveling the playing field for the private sector, separating social functions from SOEs, and improving SOE management. Moreover, credit allocation needs to be shifted in favor of the private sector, in particular micro and small businesses. To this end, the implicit guarantees of SOEs need to be removed, while banks must strengthen their credit risk assessment capabilities and increase their operational efficiency.