Chinese inflation
Sweet and sour pork
Mar 13th 2008
From The Economist print edition
Are rising prices in China driven by the supply of meat or money?
IN A country where bouts of inflation have triggered social
unrest, the jump in China's inflation rate to a 12-year high of
8.7% in February is cause for concern. But economists are
sharply divided on the cause of this inflation and the degree to
which policy needs to be tightened.
The People's Bank of China (PBOC) is expected soon to lift
interest rates and banks' reserve requirements once again.
Some people fear a repeat of 1987-88 or 1993-94 when high
inflation forced the government to tighten monetary policy
sharply, causing a hard economic landing.
One difference between today and previous surges in inflation is
that the increase over the past year has been caused mainly by
food prices, which jumped by 23%. Vegetable prices are 46%
higher than a year ago, pork is 63% dearer. The impact of
various supply shocks, notably blue-ear disease which killed
thousands of pigs, were aggravated last month by the worst snowstorms for 50 years, damaging crops
and disrupting transport. Non-food prices rose by only 1.6% over the past year. In 1994, by contrast,
non-food inflation hit 20%.
To the extent that food prices have been pushed up by one-off supply factors, they should flatten later
this year, causing inflation to fall. If so, it is argued, there is no need to slam on the brakes. Moreover,
higher interest rates would do little to curb food prices. Some policy makers also worry that if China
raised interest rates sharply at the same time as America is cutting them, this would attract bigger
capital inflows and the extra liquidity could actually worsen inflationary pressures.
Indeed, some economists believe that excess money is already partly to blame for rising inflation. In the
past there has been a tight correlation between China's inflation and money-supply growth. Monetary
growth surged before both bouts of inflation in 1987-88 and 1993-94. In 1993 the annual rate of growth
of the M2 measure of money hit 40%.
Today it is less clear that the money supply is out of control. Over the past year M2 rose by 17.5%, not
much faster than the average during 1998-2003 when prices were flat or falling. But Hong Liang, an
economist at Goldman Sachs, reckons that the M2 measure of money understates the amount of liquidity
sloshing around in China. She prefers M3, a broader measure, which includes deposits in non-bank
financial institutions and securities issued by financial institutions. According to her calculations, M3
growth has risen sharply since 2005, from around 15% to 23%. This suggests that higher inflation could
prove to be more persistent and spread from food to other goods and services, requiring the PBOC to
tighten by much more.
But another difference between today and previous bouts of inflation is that in the past rising inflation
went hand-in-hand with a widening current-account deficit—a classic symptom of overheating. Today
China has a huge surplus. This offers another tool to fight inflation: a more rapid appreciation in the yuan
alongside a modest interest-rate rise could curb imported inflation and cause less harm to domestic
demand. Indeed, this is something that most economists can agree on: regardless of what is driving
inflation up, a stronger yuan would help to pull it down.
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Qua Mar 19, 2008 6:47 pm