CHINA INFLATION

7th Jan. 2016

MONITOR
Inflation picking up
• The weekend’s inflation data should provide a respite from fears that China’s
Chang Liu
economy and financial markets are collapsing. We foresee another rise in consumer
price inflation, which should further dampen concerns about deflationary pressure. China Economist
+44 20 7808 4987
• Consumer price inflation rose in November to 1.5% y/y from 1.3% in October. (See
Chart 1.) We expect the headline rate to have increased further last month (the chang.liu
@capitaleconomics.com
Bloomberg consensus is 1.6%; our forecast is 1.7%). The data are due on Saturday.
• A pick-up in food inflation will have been the key driver. Vegetable prices rose sharply
in December, and by more than in the same month of 2014. Meanwhile, pork prices
were stable last month, while they fell slightly in December 2014. (See Chart 2.)
• Non-food inflation may have edged up too. Admittedly, regulated gasoline prices were
adjusted down early last month. But the price components of both manufacturing PMIs
rose in December, suggesting that broader price pressures have strengthened.
• Looking ahead, we expect inflation to increase further in the coming months. If we are
correct in our relatively upbeat view of the economic outlook, cyclical factors should
add to price pressures in 2016. Monetary growth is rising. (See Chart 3.) The recent
increase in broad credit growth should lead to stronger economic activity. And we
think wage growth will stay strong too.
• But even if we are wrong on the near-term economic outlook, there are also a number
of specific trends that should push inflation higher in the months ahead.
• For example, property prices should continue to rebound. This is partly a result of
monetary loosening by the PBOC and strong wage growth but is also driven by direct
policy support. Further increases in residential property prices should in turn feed
through into higher imputed rental costs. (See Chart 4.)
• Meanwhile, transportation cost inflation is set to rise further as the sharp fall in oil
prices a year ago provides a weaker base for comparison. Even if global oil prices fall
further, as they have done in recent days, the government’s decision in mid-December
to freeze domestic prices puts a floor under how low fuel inflation can go. More likely
in our view is that global prices will rebound. (See Chart 5.)
• At the same time, the pork cycle looks set to push food price inflation even higher this
year. A sharp fall in pig numbers in recent months should put upward pressure on pork
prices over the first half of 2016. (See Chart 6.) Meanwhile, the number of sows (female
pigs) is now at the lowest since the Ministry of Agriculture began publishing data in
2008. Record-low sow numbers and a likely stabilisation in pig feed prices (which have
been falling) means that pork price inflation is likely to remain elevated for some time.
• Producer price inflation remains deep in negative territory. But we don’t think this is a
major cause for concern. The main reason for the weakness in the PPI is that lower
import prices have pushed down the cost of industrial inputs, which make up three
quarters of the producer price index.
• Import prices have fallen partly as a result of weaker demand from Chinese firms but
also due to increased global supply of many commodities from which Chinese
producers stand to gain. With the cost of inputs falling but the prices of final goods
holding up much better, many firms are actually better off as a result. (See Chart 7.)
• In any case, concerns over PPI deflation will likely fade before long – with the fall in
commodity prices that accelerated in late 2014 providing a favourable base for
comparison, PPI inflation is set to recover soon. (See Chart 8.)
Inflation Monitor Charts
Chart 1: Consumer Prices (% y/y) Chart 2: Wholesale Food Prices (7d average, 2012 = 100)
9 9
Headline CE 160 160
8 8 Vegetables
Non-food f'casts
7 7 Pork
6 6 140 Fruit 140
5 5
4 4 120 120
3 3
2 2
100 100
1 1
0 0
80 80
-1 -1
-2 -2 Shaded bars mark December
-3 -3 60 60
06 07 08 09 10 11 12 13 14 15 16 17 2013 2014 2015 2016

Chart 3: Outstanding Broad Credit and M2 (% y/y) Chart 4: CPI – Residential Costs (% y/y)
24 30
10 10
M2 (LHS) Rent
22 CE forecasts
Broad Credit * (RHS) 8 Private Housing 8
20 25

18
6 6
16 20

14 4 4

12 15
*Broad credit is the PBOC’s total social financing 2 2
10 measure adjusted for the local government debt swap
for consistency.
8 10 0 0
2011 2012 2013 2014 2015 2010 2011 2012 2013 2014 2015 2016 2017

Chart 5: Global Oil & Domestic CPI Fuel Prices (% y/y) Chart 6: Pig Numbers and Pork Prices
45 Domestic fuel price (LHS) 150 60 -16
CPI - pork (% y/y, LHS)
Domestic fuel price (if prices now frozen)
30 Global oil price (advanced 1m, RHS) 100 45 Pig numbers (3m % y/y, -12
6m adv., inverted, RHS)
CE forecasts 30 -8
15 50
Pig numbers fall,
15 pork prices rise -4
0 0
0 0

-15 -50
-15 4

-30 -100 -30 8

2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2010 2011 2012 2013 2014 2015 2016

Chart 7: Producer Prices (% y/y) Chart 8: Producer Prices & Commodity Prices (% y/y)
15 Headline PPI 15 16 75
Finished consumer goods
Industrial inputs 12 CE forecasts
50
10 10
8
25
5 5 4

0 0
0 0 -4
-25
China producer
-8 prices (LHS)
-5 -5
-50
-12 Global commodity prices
(S&P GSCI, renminbi value, adv. 2m, RHS)
-10 -10 -16 -75
00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17

Sources – CEIC, Thomson Datastream, CE

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