Inflationary real adjustment in China?
Chinese inflation seems to be picking up.
That is a good thing. If China insists on holding the value of the RMB down — and if the RMB's pace of appreciation against the dollar is slow, so the RMB in practice is depreciating against a host of currencies that are appreciating faster than the RMB is against the dollar — the only way China's real exchange rate can adjust is through a rise in inflation.
Indeed, the biggest surprise coming out of China — and there have been many — is that rapid money growth hasn't, at least until now, generated much inflation. A DBS report (See Chart 1 on p. 2)shows that China has had Philippine style money growth over the past ten years without experiencing Philippine-style inflation. Indeed, the average inflation rate in China over the past ten years looks substantially lower than the average inflation rate in the US.
Even with inflation above 3%, China isn't appreciating all that rapidly in real terms. US and European inflation isn't that much lower.
If China only could experience a bit of Qatari-style inflation. Or a burst of Russian-style import growth. (see Danske Bank)
I am kidding. I generally don't think negative real rates are healthy, especially in rapidly-growing economies. I would rather see more nominal appreciation across the emerging world. But in countries whose real exchange rate is undervalued, rapid inflation is a logical consequence of resisting nominal appreciation.
Doesn’t China have a massive ‘informal economy’ extending well beyond its’ extensive borders, which offer massive potential for any amount and type of smuggling, along with what is still a comparatively large base of small farmers who deal in barter - correct me if I’m wrong. So if any of the numbers can be believed, the challenge of establishing and averaging ‘prices’ charged across the entire country has to be very interesting.
“…higher food bills inevitably put pressure on wages, already increasing by an average 15 per cent a year. So far, wage increases have been broadly absorbed by productivity gains and margin erosion. Anecdotal evidence suggests that, in some quarters at least, exporters are starting to balk and seeking to raise their own prices…” http://www.ft.com/cms/s/942b130c-18d0-11dc-a961-000b5df10621.html
“Prices of goods from China rose 0.3%, the fastest monthly rise since the index was first published in December 2003.” http://www.fxstreet.com/news/forex-news/article.aspx?StoryId=78a60fec-3824-448b-b76b-b8a7faf3f247
Problem of China is the reliability of the statistics: is possible that inflation is grossly *understated* and that the GDP of last years will be revised higher. Basically everything(retail sales, investments, trade) is growing faster than nominal GDP.
If this is the case, higher interest rates would be required.
I agree a little inflation is a good thing. For one thing, it stimulates demand. For another, it gives the price structure a chance to adjust less painfully. As you would probably agree the wage gap between China and the west can’t be closed by FX rate. Wage inflation is the only way to go even if just to narrow the gap. And wage inflation is easier with some overall inflation.
“But in countries whose real exchange rate is undervalued, rapid inflation is a logical consequence of resisting nominal appreciation.”
I don’t think that resisting appreciation has much to do with higher inflation this time. The higher inflation come mainly from a jump in food prices, especially pigs, eggs, and grains. Food has an 1/3 weight in the Chinese inflation data. How much is the core inflation, does anyone know?
The somewhat passe “Washington Consensus” suggests the same–low inflation is preferable to deflation and galloping inflation. That China has had astounding levels of economic growth without following economic orthodoxy suggests to me however that maybe even this bout of inflation might not curb growth there too much.
“I don’t know the whole story on the Chinese “pork shortage”, but I’ll hazard a guess that some speculator pool has pulled a bunch of pigs off the market and are hoarding them…” http://wallstreetexaminer.com/blogs/winter/?p=824
re: “Food has an 1/3 weight in the Chinese inflation data.”
although I’d imagine that real prices and ‘core’ purchases have to vary widely across regions, markets and consumer segments in China alone, let alone comparisons with nations like Qatar or Russia - or China’s other immediate neighbors, none of which seem to have much of a history or experience with a western definition of markets, let alone anything that may yet be compared to Western markets.
Emmanuel, non food inflation was 1%. But it’s not clear to me why one should strip out food- after all, Chinese workers still have to eat.
Guest, the rise in pork prices is nothing quite as sinister as a cabal of evil speculators cornering the market on swine. A porcine malady called Blue Ear Disease has swept through China’s piggy population, rendering many of them unfit for consumption. There will be a supply response eventually, but it will take time- full sized hogs don’t grown on trees.
sorry Voldemart man, although that quote isn’t mine, I’ve probably got much more experience in the ag commodity sector than yourself, if you have any at all, and I think it’s right to question the ways ‘markets’, anywhere, react to, or use disease, or rumours of disease - especially given the timing of many of these things.
Guest, you indubitably do have more experience trading softs than I do; tell me, which exchange in China does one go to to trade pork bellies or lean hogs to drive the price up? Perhaps it is the case that the disease has little to do with prices- though that’s not the line the government is taking- but that still doesn’t mean that agricultural prices in China are determined in the same nudge,nudge, wink, wink manner that they are in Chicago.
As one who has spent considerable amount of time in the countryside I can tell you that most pork is produced by VERY SMALL family farms in China. If these people have lost their pigs to a disease it will make them more gunshy (”we should try ducks this year instead”), it would take them quite some time to get piglets to grow (six months to a year), and/or they must wait until the new year to get money from their relatives working as migrants in the city.
As I understand it the blue ear illness swept through the south and decimated some populations and wiped out others. The southerners, being a little wealthier in Shenzhen, demanded and got more pork from the North. This likely pull in demand as purchasers sought pork from previously un-tapped sources is likely the cause of the run on prices…
so, to be clear, you’re saying that anything that isn’t traded on an exchange doesn’t have a market - and that price and market manipulation only originates from (that evil) American City - Chicago.
If all pork in China is produced on very small farms, how did the disease spread so quickly?
and if they aren’t breeding their own stock, it has to be a very expensive system, given the cost of trucking all those hogs - and the feed too? - to and from small, remote locations across China’s vast expanses…
“Emmanuel, non food inflation was 1%. But it’s not clear to me why one should strip out food- after all, Chinese workers still have to eat.”
Not only that, food production also correlates strongly with the income of 50% of the populace. And I would think rural income more strongly correlates with current consumption than urban income. So in that sense it is quite “core”, even if it is also volatile.
Chinese retail 15.9% in may YoY. Chinese consumers are doing their part.
Guest at 16:54 (1st comment)
I believe you win the debate based on a triumph of common sense over …
re: pork, fwiw, here’s a report http://www.alertnet.org/thenews/newsdesk/PEK1586.htm - believe it or not…
Can you help me out, brad? I dont understand one thing. its about inflation and interest rates. how come that higher interest rates make stock market go down? apparently, more investors are buying bonds because they have higher yields and its fixed income, unlike stocks, is much safer, and second reason, cost of capital is bigger . but, isn’t inflation the biggest reason why fed raises rates? so if we have 5 % rate and inflation is 1%, and 7 % rate and inflation is 3%, thats the same, isn’t it. real interest rate is 4 %. so you won’t get more money on bonds, and capital won’t be more expensive, right? am i missing something here?
Since the outbreak, many farmers have been unwilling to breed more pigs for fear of losing money because of the high mortality rate from the disease and because of high feed prices.
More than just the desease. Cannot afford the raw material.
I don’t exactly want to break up an interesting dialogue about the health of the Chinese pig population (I am serious –one great virtue of the internet is that it draws in a lot of different kinds of expertise), but to answer nardev’s question, i would point to two things:
a) real interest rates not just nominal interest rates have gone up, which matters if you discount future cash values to value future profit streams from companies.
b) Private equity firms issue debt to buy equities, so if debt is more expensive, it is harder for them to buy equities. some firms have also been issuing debt to buyback their stock. the same logic applies.
Re: “Basically everything(retail sales, investments, trade) is growing faster than nominal GDP.”
Yes, and what is the explanation of this? If all these items grow faster than the GDP, then what is it that grows slower? Services? Where can one find a detailed description of how the various segments of the economy contributed to the GDP growth?
Real interest rates have gone up, but nominal interest rates are used to discount expected (nominal) corporate cash flows, profits, and dividends. The key is that nominal interest rates and discount rates have gone up, but expected corporate cash flows, profits, and dividends haven’t.
re: “Where can one find a detailed description of how the various segments of the economy contributed to the GDP growth?”
is that possible? seem to be enough disparities in descriptions of Western economies.
back to livestock health - because it seems to be such a significant factor in the Chinese economy - as for livestock options, wasn’t it SARS that allegedly wiped out ducks and chickens? and as I understand it the pork disease being blamed for inflation is the porcine version of SARS.
But looking at the reference to the high feed costs and thinking about all profit opportunities that can be spun out of disease and rumours of disease, while suppressing other news, whenever I was called into regions and farms with those sorts of problems, top of my list of suspects was feed and ground water contamination - and this was in a country with standards that are supposed to be much better than China’s. The ground water contamination because there were no toxic waste dumping facilities, so stuff from the city - god knows what - was being trucked out and dumped in farmer’s fields. So there were a lot of problems and nothing that could be done about it, as governments didn’t have the budgets, or capacity, to detect the toxins, let alone do anything about it. And given the reference to rising feed costs and the recent feed contamination scandal, if that is the problem, there could also be opportunities for to profit from the sale of feed from more ‘trusted’ suppliers - which may explain in part the increase in feed prices. I understand the other problem in feed prices is drought - water contamination can’t help - and grain shortages created by demand stretched by the biofuel market - and the presumed removal and destruction of contaminated feed from the market. And whether or not, or which disease is a problem, the suspicion creates a respectable market for vaccines.
But I’m looking at the following, and if it’s closer to 20 million and counting, with the problems described then, if allowed to do so without fear of execution, I’d be tending to ask questions about water and feed contamination. And in that case, you’re talking about issues that go well beyond inflation.
“…contradictory information on the incidence and distribution of the disease in China and on its etiology, has been published by official and unofficial sources. According to one of them, (Guangxi News - Modern Life Daily, 12 May 2007, translated from Chinese, and posted in ProMED-mail…), SHFD had already been discovered in vast areas of the Guangxi Autonomous Region… and other provinces”, causing the deaths of “more than 20 million pigs, with extremely heavy economic losses”… The blurred picture has already bred suspicions…” http://www.promedmail.org/pls/promed/f?p=2400:1001:4109078928132371808::NO::F2400_P1001_BACK_PAGE,F2400_P1001_PUB_MAIL_ID:1000,37730
In the meantime, one reaction could be that prices for local product collapse as consumers loose confidence in their food system - while demand for and prices of ‘trusted’ imported product sky rocket.
On russian imports:
this abstract misses the critical point of the Vedomosti article - most of Russian imports are “gray” or even “black”. The usuall sceme is to import at lower prices (armani jeans at the price of secondhand) or imports via transit sceme - the goods get into the country as if they were transit say from China or Japan to Europe and then just disappear. Now then the customs tries to fight that, the share of fully legal imports rises fast. Really all non-monetary economics data in Russia is a joke, heavy adjustment are needed for the shadow economy.
re: “heavy adjustment are needed for the shadow economy”
not just Russia’s…