Is China facing inflation or disinflation?

9th August 2012

One of the features of 2012 has been the way that the Chinese economy has begun to slow down. We have seen more data released today which confirms that this continues and it poses a question as to what will happen next? I note that the report on the first half of 2012 by the spokesman of the Chinese statistics bureau uses words such as "stable" "steady growth" and "moderate pace" which is quite different to what we saw before.

The spokesman also thought it wise to praise his leaders:

"The CPC Central Committee and the State Council committed to the general tone of progressing steadily, correctly handled the relationships among steady and comparatively rapid economic development, the adjustment of economic structures and the management of expectation on inflation,  paid more attention to maintaining steady growth, carried out the proactive fiscal policy and prudent monetary policy, and made great efforts in policy presetting and fine tuning."

From time to time I present western political hype well there you have it Chinese style!

The net economic effect was that GDP growth slowed to 8.1% in the first quarter of 2012 and 7.6% in the second.

Was this predictable?

I argued back on December the 12th last year that China should take action:

So China should consider further easing and again at this point should only be reducing the contractionary effect rather than an outright stimulus. But the time is now…

This was part of my theme that central banks should get ahead of events if they can rather than being a Johnny come lately as they invariably do in practice. I think that the time gap is important and it is one where western central banks failed in the credit crunch. The Chinese had an opportunity to use some stimulus early as opposed to the ongoing western response of enormous and extraordinary stimuli too late. Unfortunately,however, they did not seem to learn much.

Problems with their past policies

I am not a fan of using reserve requirements as a way of slowing an economy as I explained back on December 12th:

For those who do have not followed this it is an attempt to reduce the quantity of money and is usually a mistake as it is a very blunt instrument. It usually goes as follows, you do some and nothing happens so you do some more and nothing happens so you do even more then like a brick on a piece of elastic it comes back at you at high and uncontrolled speed and you are out of control.

So China has ignored western economic history with its policy of raising bank reserve requirements. And there is also food for thought for western policy makers as it is an attempt to influence the quantity rather than the price of money. If you have my view that we had a lot of trouble taking money out of the system then part of my scepticism (from the beginning) of our ability to pump it back in (Quantitative Easing) becomes clear.

What did we learn about China today?

Inflation continues to slow

In July, the consumer price index (CPI) went up by 1.8 percent year-on-year… The food prices went up by 2.4 percent, while the non-food prices increased by 1.5 percent.

So quite comfortably below target and for the year as a whole so far the average is now 3.1%. I have put in the food price measure to see what sign there is of the rise in corn, soyabean and wheat prices affecting inflation and so far we can see only a little.

Further down the price chain we can see that there if there is any price pressure it is now downwards:

In July 2012, Producer Price Index (PPI) for manufactured goods decreased 2.9 percent, year-on-year, and 0.8 percent decrease month-on-month. The purchasing price index for manufactured goods went down by 3.4 percent year-on-year, and 0.8 percent decrease month-on-month.

So both output and input producer prices are exhibiting falling prices or disinflation and the rate of fall is accelerating. Indeed producer prices now exhibit a small fall if we take  2012  so far in total.

For those who look for clues as to the underlying state of the Chinese economy I note that some raw material prices are amongst the leaders in the price fall area of input costs for 2012 so far. For example Iron (-5.4%), metals apart from Iron (-5.5%) and chemicals (-2.9%).

Industrial Production

July saw Chinese industrial production annual growth dip further to 9.2%. As many countries would gnaw off their right arm figuratively speaking for such growth let me give you some context. Back in the summer of 2011 it was 15% and it has been trending downwards since.

For those who look at the breakdown for clues to the situation there are some morsels to be picked up. For example electricity consumption was higher than last year but only by 2.1% which is a lot less than the headline industrial production growth rate. In fact all of what are listed as "major products" had a lower growth rate except for automobiles.

Retail Sales

"In July, the total retail sales of consumer goods reached 1,631.5 billion yuan, up by 13.1 percent year-on-year (nominal growth rate). The real growth rate was 12.2 percent."

So we have a familiar pattern here of falling growth levels as the annual growth rate of retail sales had been as high as 18% last December. In the detail I note that automobile sales only rose by 4.7% in July so there may be something of a crunch coming if this continues at a much lower rate than production. Perhaps no-one has told the Chinese consumer to buy more cars yet!

Continue reading…


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