Chinese inflation and impending train wreck
China's economy in 2004: Dimming or brilliant?
By Macabe Keliher
(Copyright 2004 Asia Times Online Co, Ltd
SHENZHEN - Three hundred and eighty pounds of salad oil used to cost Hsu 1,322 yuan (US$160). In November he paid 1,672 yuan (US$202) a 26.5 percent increase. Fifty pounds of noodles usually costs him 51 yuan; last month it cost 65 yuan, a 27.4 percent rise. Rice too jumped from 0.82 yuan a pound to 1.01 a pound, a 23 percent increase. Indeed, across the board, staple food products rose an average of 17.88 percent in November for Hsu, the operations manager of a listed Taiwanese company invested in China.
"They say it is because of floods and droughts, but you can never be too sure with authorities here," he says drawing on 15 years of experience in China, and asking not to be identified for fear of causing unnecessary trouble for himself and his company by making critical comments. Over that period, Hsu has never seen such price increases, not even during the great floods of 1996.
Hsu is not alone. After 15 months of deflation, and nearly seven years of price stability, China's consumer price index showed 3 percent inflation year on year in November, giving rise to concerns that China's economy is overheating. Food prices were up an average 8.1 percent, with edible oil prices leading the rise at 27.2 percent, vegetables up 19.4 percent and grain up 10.8 percent, according to the National Bureau of Statistics.
These cost increases in turn have led to a rise in the cost of consumer services, such as medical care, up 8.1 percent; utilities, up 4.6 percent, and education, up 3.9 percent, according to Morgan Stanley, a global financial services firm.
China's State Council's Development Research Center says the price increases are due to grain price hikes caused by production shortages, which, according to the official Xinhua News Agency, "led to higher costs for other commodities". Summer grain production dropped 2.4 million tons this year compared with last year, which is only an "adjustment to the grain production structure and [the result] of natural disasters", the state-owned news agency said, quoting Zhang Liqun, a senior researcher at the center.
Credible or not, speculation abounds about the real causes of inflation here. Hsu wonders if the People's Liberation Army is not stocking up in preparation for war against Taiwan. Op-eds around the country say that the war with Iraq has affected supply chains, while a sociologist at Renmin University in Beijing says that trucker strikes in the north have kept supplies from getting to market and thus driving up prices. Even foreign security houses have added to the speculation about inflation: Citigroup Global Markets blames it on the weather, while Merrill Lynch says agricultural land is scarce because it is being converted to industrial uses.
Overheated?
Regardless, rising prices in China is a phenomenon Morgan Stanley chief economist Stephen Roach has called "mildly disturbing" for the very fact that it could indicate that China's economy is overheating, which would lead to high prices, failing industries, insolvent banks and a lot of very unhappy Chinese people.
Industrial output reached a nine-month high as of last November, representing an increase of 17.9 percent over the same period in the previous year. Xinhua quoted Tang Ming, chief economist at the Asian Development Bank, as saying that the growth rate of capital investment in China in the first three quarters of 2003 was higher than the total investment in the 1993 to 1994 overheating period.
Blackouts around the country due to strains on the power supply and continued investment in redundant capacities such as steel, aluminum, cement and automobile manufacturing, are further signs of a giant economy a bit too hot.
The property bubble now enveloping China has already created overheating in at least one sector. Property investment was up 34.9 percent in the first quarter of 2003, far outstripping China's 8 percent GDP growth. And while property speculators continue to drive up prices, vacancies stand at an estimated 26 percent, quadruple the American figure, eight times Hong Kong's and 2.5 times the international norm.
Furthermore, new bank loans as of August last year had already overtaken total new bank loans of 2002. New loans in 2002 equaled 15.8 percent of total loans for a total of 1.897 trillion yuan. As of August 2003, total loans were up 23.9 percent for a total 2.17 trillion yuan, already surpassing total loans the year before. China's central bank says that it would keep new loans at around 3 trillion yuan, for a total rise of 22.8 percent - far surpassing last year - but officials say 3.2 trillion yuan is more likely, and Citigroup estimates that total loans for 2003 will exceed even that figure.
Economists at Merrill Lynch say that "excess capacity is being used up, bottlenecks are beginning to emerge in key sectors (electricity, raw materials, transport), and China's extended period of deflation appears to be drawing to an end."
All the right moves
Merrill Lynch sees such developments as a "natural outcome of China's strong economic performance". In a report on China last month, economists said they expect the economy to expand by 11.5 percent in 2003, up from 11 percent in 2002 - estimates well above the official 8.3 percent - and to continue strong in 2004.
The government here is not taking any chances, however, and has enacted measures to reel in investment and engineer a soft landing. In late September, the central bank raised the reserve requirements on bank deposits from 6 percent to 7 percent, and subsequently tightened the scrutiny of loans, especially those for real-estate investment. The central bank also increased mortgage rates, especially for luxury developments, and increased the lending rate to property developers. Sources close to the banks say these measures have led the big four state-run banks to cut off lending altogether.
Whatever is happening, "the medicine is working", according to chief economist Roach at Morgan Stanley, who is upbeat about China and a soft landing. Loan growth in October and November was 80 billion yuan, down sharply from average monthly gains of 275 billion yuan in the first three quarters of 2003; fourth quarter credit growth was at 5.9 percent, down from 21.1 percent the year through August; real-estate investment backed off over 2 percentage points in November; and Citigroup expects the central bank to bring down the growth of the money supply (M2) from 21 percent in 2003 to 18 percent this year.
"The Chinese credit cycle has turned," Roach said.
Ghost in the machine
Perhaps, but local governments may have other ideas. Late last week, Beijing and Shanghai city governments announced new rules facilitating property speculation by allowing developers to sell apartments before completion, the very thing the central bank was trying to curb.
The moral here is that given the size and diversity of the country, it is impossible to talk about the economy or the investment sector as a whole. Inflation in one area or industry of China may be deflation in another - and explanations for inflation do vary, after all. The property sector in Beijing and Shanghai looks set to continue to overheat. But manufacturing in Shenzhen is increasing at alarming rates.
In fact, the International Finance Corporation, the investment arm of the World Bank, estimates that China's manufacturing output will more than double in the next three years, flooding the markets with excess capacity and creating downward pricing pressures, not inflation. This view is further supported by the fact that non-food inflation in November was only 0.3 percent year on year, and prices of transportation and telecommunications equipment were actually down 2.2 percent in the first 11 months of 2003.
So what does 2004 have in store for China's economy? Merrill says inflation, Citgroup says deflation and over-investment, Morgan Stanley says the "greatest economic development story of the 21st century" and the Chinese say no further prices rises. They are all right, and they are all wrong; and it doesn't really matter because foreign investment continues to gush in, and exports out, and GDP rises. Indeed, as Chi Lo, an economic strategist in Hong Kong, says, "China won't crash because confidence remains high; people are still crazy about China." |
