By Shi Weigan
The consumer price index (CPI) for May released on Tuesday did
not come as a surprise. The 3.4 percent monthly rise, though a
record high for the past two years, was within market
expectations.
CPI growth over 3 percent is usually regarded as a signal of
inflation and of possible economic over-heating. Many institutions
speculated that the central bank is considering raising the
interest rate.
Raising the interest rate following record CPI growth is a
logical choice according to most economic theories. However, a
close look into the CPI growth as well as the macro economy is
necessary before the authorities take any move on the interest
rate.
According to analysis of the National Bureau of Statistics, the
CPI jump in May was due to the rise in food prices, especially meat
and eggs.
The data for calculating the CPI can be divided into food and
non-food commodities. Food prices account for 33.2 percent of the
CPI and the prices of non-food commodities account for 66.8
percent.
Among the seven categories of foods, meat and poultry products
account for 8 percent; eggs, 1 percent; and grain, 3 percent.
Meat and egg prices have nearly three times the CPI weight of
grain prices.
According to statistics from the Ministry of Agriculture, pork
prices rose by more than 100 percent over July 2006 and were 70
percent higher than this past March. A natural consequence is the
CPI increase.
China has been a manufacturing base for the world for quite some
time, so it has seen a balanced supply and demand for most
commodities in recent years. The supply of several commodities even
surpasses the demand. As a result, the prices of non-food
commodities, except for housing, remain flat.
The CPI is actually propelled by the price rise in meat and
eggs. It is necessary to examine whether the price rise will
trigger real inflation, which must be cushioned with a higher
interest rate.
If the price of pork and eggs rises too high, the common people
will probably turn to other foods.
The higher price for pork and eggs will only have a mild
influence on the economy other than pushing up the price of animal
feed and related products. It is different from the case in which
grain prices rocket because pork and eggs are not used as widely as
grain in industrial production.
The CPI growth of over 3 percent in May will not put long-term
pressure on economic growth.
Judging from the current situation, we can conclude that the
recent CPI growth is unlikely to lead to comprehensive
inflation.
The investment growth in industry is the major source for
inflationary pressure in China, especially the investment in
manufacturing iron, steel and nonferrous metals.
The higher-than-normal growth rate of investment in these
industrial sectors was not checked until the central government
issued several policies against the production and export of
energy-intensive and resource-intensive products and products with
high emission pollutants.
With the policy tools taking effect one after another, we have
full reason to believe that inflation is not going to be set off by
the rapidly rising price of meat and eggs.
As a result, the authorities may need more reasons to resort to
an interest rate hike at this moment.
Moreover, if the interest rate is hoisted now, it involves a
potential threat to economic soundness.
The abundant, even excessive, liquidity in the Chinese financial
sector is driving up prices on the stock market and the housing
market. The liquidity originates from the method of foreign
currency settlement and strict control over the capital
account.
The central bank has turned to several options including raising
the reserve requirement for commercial bank deposits, but these
measures can only partly control the liquidity in the hands of
commercial banks.
Since the renminbi is constantly appreciating, more
international hot money will come into China for profits if the
interest rate is lifted again, loading the country with even more
excessive liquidity.
The stock markets in Shanghai and Shenzhen dipped on Tuesday
morning in anticipation of the CPI statistics, but soon picked up
after the figure was announced.
The market reaction indicates that investors saw that the CPI
was merely driven up by the meat and egg prices, instead of
forecasting overall inflation. The conclusion was that the
much-feared interest rate hike may not come so soon.
As a matter of fact, investors should not interpret the central
bank's decision on interest rates as the authorities' current
attitude toward the stock market. The CPI growth should not be
viewed in the traditional sense, but with full consideration of the
unusual price fluctuations in the last few months.
Note: the author holds a PhD in economics from the Chinese
Academy of Social Sciences
(China Daily June 15, 2007)