My Blog

May 11, 2008

April’s CPI numbers were released earlier today and, as the pessimists among us expected, inflation came in at 8.5% year on year, quite a bit higher than most analysts’ predictions.  March’s year-on-year inflation was 8.3%.  Probably in response to the higher-than-expected numbers, late in the day the PBoC announced that minimum reserve requirements were going to be raised by 0.5%, to 16.5%.

Throughout the past two weeks we had been getting a lot of soothing noises about inflation and confident predictions from analysts and even from Governor Zhou of the PBoC that it would come in at 8% or just above – Bloomberg’s poll of 22 analysts predicted on average that year on year CPI inflation for April would be 8.2%.  Even Credit Suisse’s Dong Tao, who has normally been very pessimistic – and very right – about inflation, predicted that April’s CPI number would come in at 8% year on year.  It took a bitter, twisted guy like Stone & McCarthy’s Logan Wright, who refused to bask in the good feelings and insisted on counting the numbers up for himself, to throw in an 8.5% prediction.  He was right, thereby reinforcing my claim a few days ago that for the past six months you would have always done best by betting on the most pessimistic prediction.

Month-on-month inflation rose by 0.1%.  This means that inflation for the first four months of the year is running at an annualized 9.9%.  At this rate we would need inflation for the next eight months of the year to be 2.4% on an annualized basis to bring us to the government’s 4.8% target for 2008.  Clearly this is very unlikely, and even government officials have acknowledged that the official target is intended more for signaling purposes than as a real statement of government intentions.

I assume that most of the investment bank researchers, who are still predicting annual inflation for all of 2008 as coming in between 6% and 7%, will want to reconsider their predictions.  With CPI inflation running at an annualized 9.9% for the first four months of 2008, we would need price increases to run at less than an annualized 5.6% for the next eight months if we hope to bring CPI inflation under 7% for 2008.  This is not impossible, of course, but it is very unlikely to occur without a significant economic slowdown, so if investment banks are still predicting CPI inflation for 2008 below 7% they should probably revise their GDP growth expectations sharply downwards.  For the record, I think year-on-year inflation will exceed 8% in 2008 and could easily approach double digits.

Year on year non-food inflation at 1.8% was the same this month as last month.  Commodity, energy, labor, household items and residential property are the main culprits, which unfortunately suggests that inflation is, as expected, spreading away from food.  Remember that it is rising food prices that have absorbed inflationary pressures, according to my model of inflation in China, and because food prices have increased so quickly – 22.1% year on year – they have actually forced downward pricing pressure on non-food items.  The fact that non-food prices continue nonetheless to rise is, in my opinion, ominous.

Today’s numbers won’t do much to resolve the debate between the pork and money camps.  This of us in the money camp will point out that non-food inflation may still be relatively low, but instead of decelerating, it has been accelerating all year.  This is wholly inconsistent with the idea that Chinese inflation is just a food problem, since annual price increases of over 21% for food, with food officially 33% of the CPI basket, should have put tremendous downward pressure on non-food prices.  By the way I think the ADB claims (more realistically, in my opinion) that food is 40% of the consumption basket, not 33%, which if true would take CPI inflation up closer to 9.9%.

The money camp will also argue that recent foreign currency reserve growth has been way too high and is clearly causing excess monetary expansion, which must show up in overheating and inflation.  Finally, they will argue, even with the moderation in export growth, there has been no sign of a slowdown in the economy.

The pork camp will argue that non-food inflation is still low, and we are still seeing the delayed impact of the food supply constraints from last year and during this year’s storm.  As long as the government can resist pressures for inflationary expectations to spread, inflation for the rest of the year will continue to drop as the food supply problem eases.  They will also point to a slowdown in export growth and continued concerns about weakness in the US economy to insist that the financial authorities have very little room to get it wrong on the side of excess tightening.

We still need to wait and see a few more months of CPI inflation before this debate is fully resolved.  I am of two minds as to what the CPI numbers for May and June are likely to be.  On the one hand food prices have held up stubbornly but price increases are starting to moderate somewhat and in some cases may even be declining, so we may see some relief there.  Thanks to price controls and spending rigidities there may be a lag between a slowdown in food inflation and a pick-up in non-food inflation.  From that point of view we may see the CPI index rise only very slowly from its current level, and overall year-on-year CPI inflation hover around 8% to 8.5% for the next month or two, before picking up substantially in the third and fourth quarters as non-food inflation kicks in more aggressively.  

Alternatively, with the beginning of the great Olympic party, we may start to see pressure for price increases much earlier.  There are already reports of a significant increase in domestic airline tickets, and of course in and around Beijing we are all braced for a big increase in prices – if we haven’t seen them already.  There is also pressure for a relaxation of price controls on certain goods because of hoarding, smuggling, and their distorting impacts on consumption.  All of this might result in sharper increases in CPI inflation fairly quickly.  My worry is that even if we do see a pick-up in inflation in the next two or three months, those who continue to want to postpone the monetary adjustment will argue that the most recent bout of inflation will have been caused by yet another one-off event: the Olympics, which once it is behind us everything will be fine.

The stock markets have behaved a little erratically today.  According to my student Shang Ning, who follows the markets closely, the SSE Composite opened around 1.8% below Friday’s close of 3613, and traded further down to 3522 (down 2.5%) a few minutes before the release of the CPI numbers, on expectations that CPI inflation was going to be higher than expected and might result in further tightening action by the PBoC.  After the CPI release, however, the market rebounded for the rest of the morning and continued up in the afternoon to close the day up 0.37%, driven by airline manufacturers and steel companies.  It seems that bad CPI numbers haven’t really fazed anyone.

Comments (2) for "CPI for April was 8.5%, and ...

Good call on cpi. As you know, I argue that the money camp ought to include asset prices when considering what would have to go down if food goes up, but stocks have stopped going down, so maybe that mattered. Knowing your views on the politicisation of stock market movements, you should listen to today's (Monday) Business Daily on the BBC World Service, if you can, on http://www.bbc.co.uk/worldservice/programmes/business_daily.shtml The programme interviews some investors about how they choose stocks, and they say that they look for ones that they expect the government to support. It is interesting to read that labour contributed to the rise in the cpi. I would not have expected labour to appear in a cpi. That seems significant to me. If wages are keeping up with price rises, maybe the inflation may not be such a bad problem for ordinary people. That makes me wonder whether it is been allowed to proceed as a way of engineering a real currency appreciation without rewarding speculators. By RebelEconomist - 5/12/2008 12:14 AM

I took a look at the April tradenumbers. I calculated the avg price for import oil was $1o4/b, whereas market price was near $12o. Also jan through march avg imported oil price was $94, while in this period oil held constantly over 1oo. Add to this transportation costs. It seems like the oil price takes 3 month delay to affect Chinese import prices. By Gabor - 5/12/2008 4:33 AM