China Faces Deflation Threat
BEIJING: China fell into deflation at the consumer level last month for the first time in more than six years, as ministers painted a gloomy picture of the economy's near-term prospects.
The 1.6 per cent drop in the consumer price index (CPI) in the year to February, which was bang in line with a Reuters survey of 26 analysts, gives the central bank ample scope to cut interest rates further if need be to boost the economy.
Goldman Sachs said now seemed a "natural point" to lower borrowing costs to ease the financial burden on firms, which are battling a slump in overseas demand and in domestic construction.
Commerce Minister Chen Deming and Industry Minister Li Yizhong, speaking at a joint news conference, both used the word "grim" to describe the immediate outlook for Chinese exports and the manufacturing sector.
Li said he was encouraged that power consumption had declined at a slower pace in the first two months of the year.
But he added, "The situation of industrial production remained grim." The year-on-year drop in the CPI, reported by the National Bureau of Statistics, was the first since December 2002.
Economists worry that, unless China's four trillion yuan, or US$585 billion (US$1 = RM3.70), stimulus plan kicks in soon, these deflationary pressures will intensify because the economy is saddled with excess capacity at a time of depressed demand.
Consumers who expect more price declines in future may delay their purchases, weakening the economy and undermining corporate profits.
"I think this is the first sign of deflation," Qing Wang, China economist for Morgan Stanley in Hong Kong, said of the CPI drop.
"We expect an additional policy response, mainly to prevent deflationary expectations from getting entrenched."
Shanghai stocks recouped early losses and ended 1.88 per cent higher as investors shrugged off the slide into deflation and took comfort from strong lending data.
Wang expects consumer prices to decline 1 per cent in 2009.
By contrast, the government of Premier Wen Jiabao, who has sought to bolster confidence by talking up the economy's fundamentals, expects inflation to average around 4 per cent.
Mingchun Sun with Nomura in Hong Kong agreed the lapse into deflation was likely to be temporary. Inflation would return by the second half of the year and reach 2.8 per cent in the fourth quarter. For all of 2009 the CPI was likely to rise 0.6 per cent.
"Considering the inflationary nature of the stimulus package, we believe the People's Bank of China will hesitate in cutting rates. Therefore, we now expect just one more 27 bp (basis point) cut this year - down from three in our earlier forecast - and see that as more of a symbolic reaction to deflation," Sun said in a report.
Protracted deflation is also debilitating because it increases the real burden on companies of repaying debts.
And, if the cost of money is already close to zero, deflation makes it impossible for central banks to set negative real interest rates. - Reuters
The 1.6 per cent drop in the consumer price index (CPI) in the year to February, which was bang in line with a Reuters survey of 26 analysts, gives the central bank ample scope to cut interest rates further if need be to boost the economy.
Goldman Sachs said now seemed a "natural point" to lower borrowing costs to ease the financial burden on firms, which are battling a slump in overseas demand and in domestic construction.
Commerce Minister Chen Deming and Industry Minister Li Yizhong, speaking at a joint news conference, both used the word "grim" to describe the immediate outlook for Chinese exports and the manufacturing sector.
Li said he was encouraged that power consumption had declined at a slower pace in the first two months of the year.
But he added, "The situation of industrial production remained grim." The year-on-year drop in the CPI, reported by the National Bureau of Statistics, was the first since December 2002.
Economists worry that, unless China's four trillion yuan, or US$585 billion (US$1 = RM3.70), stimulus plan kicks in soon, these deflationary pressures will intensify because the economy is saddled with excess capacity at a time of depressed demand.
Consumers who expect more price declines in future may delay their purchases, weakening the economy and undermining corporate profits.
"I think this is the first sign of deflation," Qing Wang, China economist for Morgan Stanley in Hong Kong, said of the CPI drop.
"We expect an additional policy response, mainly to prevent deflationary expectations from getting entrenched."
Shanghai stocks recouped early losses and ended 1.88 per cent higher as investors shrugged off the slide into deflation and took comfort from strong lending data.
Wang expects consumer prices to decline 1 per cent in 2009.
By contrast, the government of Premier Wen Jiabao, who has sought to bolster confidence by talking up the economy's fundamentals, expects inflation to average around 4 per cent.
Mingchun Sun with Nomura in Hong Kong agreed the lapse into deflation was likely to be temporary. Inflation would return by the second half of the year and reach 2.8 per cent in the fourth quarter. For all of 2009 the CPI was likely to rise 0.6 per cent.
"Considering the inflationary nature of the stimulus package, we believe the People's Bank of China will hesitate in cutting rates. Therefore, we now expect just one more 27 bp (basis point) cut this year - down from three in our earlier forecast - and see that as more of a symbolic reaction to deflation," Sun said in a report.
Protracted deflation is also debilitating because it increases the real burden on companies of repaying debts.
And, if the cost of money is already close to zero, deflation makes it impossible for central banks to set negative real interest rates. - Reuters
quoted from: Business Times
