My Blog

May 9, 2008

China’s PPI numbers for April were released today and, to no surprise to those of my readers who agree with my argument that inflation in China is primarily a monetary problem, they weren’t good.  Year on year the index was up 8.1%, a little below market expectations but above last month’s 8.0%.  This was fastest pace of increase in four or five years.  Just six months ago year on year PPI inflation was well under 3%. 

Although the food component was up, by 11.9% year on year, much of the increase in PPI prices was driven by even sharper increases in the prices for crude oil, steel, raw materials, fuel and power.  In my opinion it has become very hard to hope that inflation has not spread to other goods.  We are seeing exactly what we would have expected if the monetary model of inflation in China is correct – for a while rapidly rising food prices absorbed much of the inflationary pressures caused by excess money, but as food inflation abates the inflationary pressure will spread more evenly among other goods and services.  The debate still isn’t fully resolved, of course, but another month or two of these kinds of price increases should really damage the argument that this is “just” a temporary problem of too little food.

According to yesterday’s Bloomberg the median estimate from 22 economists for April CPI inflation is 8.2%, a moderate improvement from March’s 8.3%, with most predictions bunching around the 8.0-8.3% level.  I suspect, however, that we are going to be disappointed, and that the actual number is going to come in substantially higher.  With most economists continuing to believe that Chinese inflation is a food-supply constraint problem, the recent moderation in food inflation has led them think that CPI inflation is also moderating but, as I have been insisting for several months, we are going to continue to be surprised by accelerating inflation in the non-food component of the CPI basket. 

Earlier today I had coffee with a group of people that included the chief economist for one of the larger Beijing-based securities companies in China (since I didn’t ask her opinion to quote her I won’t mention her name).  She struck me as an extremely smart lady, very knowledgeable, and probably very well-connected as far as her information sources.  She told us that she expected April CPI inflation, which is due to be released Monday, will actually come in at 8.5%.  As I mentioned in a posting on May 5, Stone & McCarthy’s Logan Wright, whose inflation pessimism in recent months has largely been justified, did his own counting and also came up with 8.5% as his prediction.  Finally an article in today’s South China Morning Post cites two unnamed sources who are supposedly “familiar with the data” as making the same claim.  Sounds worrying, although not at all surprising if true.

On that and other topics Vice Premier Wang Qishan gave a much-anticipated speech in Shanghai today and had some very sound things to say about China’s financial system.  He stressed the importance of financial risk prevention.  “Safeguarding financial stability and preventing risks will be one of our policy priorities,” Wang said according to Bloomberg.  “The subprime crisis, globalization of financial markets, and financial product innovation have magnified financial risks to the world as well as China.”  Given the huge monetary imbalances of the past few years and the enormous growth in bank lending I think one of the biggest dangers facing China must be the increasing risk of a sharp financial adjustment leading to a crisis in the banking sector, and so I think it is very important that the financial authorities recognize and worry about these risks (actually worry is not strong enough a word, in my opinion – they should obsess about it). 

Wang, who is widely described as the chief financial policy-maker, also insisted that China will maintain a tight monetary policy to cool price increases and prevent economic overheating, and he made some strong references to the need to “step up” its management of cross-border capital flows, i.e. hot money.  As if on cue Xinhua published an article today on hot money, which, according to the piece,

…is becoming an increasingly important concern for Chinese regulators as anticipation of an inflow surge strengthens along with a widening gap between interest rates in the United State and that in China.  The exact amount of “hot money” into the country would be difficult to discern, however, there is indeed an acceleration of capital influx into the Chinese market as investors bet on a stronger yuan and rising domestic interest rates.

Later on in the piece they quote a widely-cited recent estimate of hot money inflows:

Zhu Baoliang, the chief economic analyst of the prediction department of the State Information Center (SIC), told an industry seminar last month the first-quarter speculative inflow exceeded $80 billion, compared with $120 billion for all of 2007.

The State Information Center has been arguing pretty consistently, it seems to me, against continued increases in the value of the RMB, and they have especially pointed to the acceleration of hot money inflows as one of the major reasons against rapid appreciation.  Of course I would argue that the acceleration of hot money actually suggests something very different: that the only option left for the PBoC is a one-off revaluation.  

The same Xinhua article then referred to another piece of research, this time one with which I was not familiar:

Speculative capital inflows into China may climb to $650 billion by the end of this year, or $800 billion by the end of 2009, Zhong Wei, director of the financial research department under the Beijing Normal University, said in a recent report without elaborating on his calculation method.  He put the amount of hot money at $320 billion at the end of 2005, 400 billion at the end of 2006, and $500 billion at the end of last year.

It doesn’t matter that these different estimates for hot money inflow don’t agree among themselves, because it is very difficult to measure what are after all often illegal transactions, and often buried in trade and other transactions, especially since there isn’t even an accepted definition of what kinds of capital inflows can be regarded as “hot money”.  The important thing, I would submit, is that everyone who has attempted to construct proxies for hot money has reported a significant increase in his measure.  With Wang Qishan bringing up the subject in his Shanghai speech, it is clear that this is a major consideration one way or the other.

I can’t finish the week with out noting that we had another bumpy day on the stock market.  I will once again turn to my student Shang Ning for color:

It seems today the PPI number shocked some players, but not too much.  The SSE index opened up by roughly 0.8%, and then bounced up and down within a range of + or – 0.8% from yesterday’s close.  Around 10:00 a.m., the PPI number was released, and the market dropped sharply to 3556, for a 2.85% loss for the day.  That was the day’s low, but in the last hour, it moved back with some volume and finally closed down for the day by -1.19%.  Coal companies and consumers gained.  Financial companies, banks, and real estate were the big losers, with the financial sector losing 3.16% on average.

Banks have been hit pretty hard the past few days, mainly on concerns about slowing growth and interest rate hikes.  There still is very little conviction in the market.  Today I was interviewed for CCTV’s current events program, Dialogue, and the topic of discussion was whether government interventions are likely to work to keep the market strong, at least until the Olympics.  The other guest, Bi Jiyao, Deputy Director of the NDRC’s Institute for International Economic Research, was much more sanguine than I was about the ability of the government to support the market and turn around negative sentiment, but we both agreed that over the long term these interventions are not positive for the development of a healthy investor base. 

Ultimately, he argued, the question is one of social stability, and although market interventions are not healthy in principle, it was very important for the government to keep the current market from turning into a rout and causing huge damage among the urban middle classes just before the beginning of the Olympics.  I guess I agree, although I think I am also less optimistic than he is about how successful these interventions are likely to be.

Comments (1) for "PPI inflation is 8.1%. Will...

Prof Pettis: 8.5% spot on! Be careful with your teaser subject title, or you will be called Oracle of China CPI in no time. Cannot wait to read your post CPI analysis. By Kheng - 5/11/2008 11:59 AM