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The Positive Aspect of Inflation in China

Yesterday I went shopping at my local Chinese supermarket and I was chatting with my friend Cheng because I noticed a little worried. In a precarious rather than Spanish, told me about the problems you are experiencing his family in China with the harsh winter by being experienced and the price increases of increasing concern.

I tried to test a message of encouragement, saying that at least his family did not have to suffer the difficulties he faced in Argentina with its economic policy. My argument was weakened by recalling that in China are conducting similar economic policies to those of the Kirchner government, with an artificial exchange rate depreciated and implementation of price controls.

I was really worried about Cheng. But what I said made me think about what consequences can lead the world in the inflation problem for China is going through.

The truth is that in January, inflation in China reached 7.1%, but worse, the cost of food registered a rise of 18.2% (food is one third of the consumption basket of China). It is true that the bad weather affected the prices, but it is also true that there is no prospect of lowering them as yet prices have affected the rapid growth of money supply and rising prices of raw materials .

My feeling on this is consistent with Hong Liang and Yu Song, Goldman Sachs in Hong Kong: "The acceleration in money and credit growth in January suggests that inflation probably has more legs to run."

The problems have a hard time to the U.S. also have affected the inflation issue in China as policy rate cut by the Fed has increased the existing rate differentials, which resulted in an increased flow of capital to China. The strong growth of FDI during the month of January, doubled in volume to the same month last year. The influx of investment money along with the trade surplus are factors that threaten to exacerbate the inflation problem as well as increasing the risk of generating a bubble in asset prices.

As if the inflationary pressures that result receives little outside China, in a note the WSJ, is the country's eastern states cause of international inflation for the major economies as a result of rising prices of Chinese goods because of rising costs labor and intermediate products. However, this hypothesis was rejected by a study by Tarhan Feyzioglu (MFI in Beijing) and Luke Willard (OECD in Paris), the low participation of Chinese goods in total consumption in these countries.

What is certain is that one consequence of higher inflation in China is that triggers a higher demand for assets providing further hikes which makes the raw material prices are at record levels.

The Chinese government has sought a solution to rising prices Argentine style (and Venezuela and .... Well, there are several countries that are implementing), by regulating prices. I guess at this point no one can think that price controls are ineffective against inflation, as well as says James McCormack, head of Fitch Ratings Hong Kong Ltd: "Price controls do not work because not address the imbalance between supply and demand. " This also was alerted at the last meeting of the G-7.

The truth of this, is that inflationary pressures in China will force the authorities to continue with the policy of hike in interest rates (in 2007, were raised interest rates six times), and to accelerate yuan appreciation.

Just the need for accelerated yuan appreciation is good news for the U.S. because it creates a competitive it is vital in these times when the aggregate demand in the north country is weakened.

May be then, that through the appreciation of Chinese currency effect is twofold: to reduce inflationary pressures through the exchange rate anchor, and as this implies a lowering of the products China imports from the U.S., the U.S. economy would benefit through increased foreign demand. This would be good news for the U.S. at a time when authorities are less optimistic (the Fed yesterday reduced prospects for growth by half a point to place it between 1.3% and 2%) and the rate of inflation higher than expected, threatens continuing process of rate cut.

I should mention that in the process of yuan appreciation an obstacle that may cause the Bank of China prefer to soften the pace of appreciation of its currency, consisting of the speculative investors bet that seek to profit by betting on the Chinese currency. Let's wait to see how the Chinese authorities handle this threat.

Poor Cheng! I understand their concerns. But at least here in Argentina, with high inflation, price controls and an artificially undervalued exchange rate, it will not surprise too to his native country.

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