Thursday, 20 September 2007

China to Freeze Prices: the start of new period of intervention or a lost cause?

Today the FT reported on China's attempts to curb inflation by imposing price freezes. This is a dangerous route to go down. Market forces are often hard to stop once they get going.

At the moment the freeze is only on prices that the government still controls such as carparking and oil.

Although such policies may have worked in the past, the number of products under direct control is a lot lower. This new stratey may have a limited effect. The question then is "what next"?

Beijing imposes price freeze [FT]

China is to enforce a freeze on all government-controlled prices in a sign of Beijing’s alarm about rising popular anger over inflation, now at its highest rate in more than a decade.

The order freezes a vast array of prices still under the control of government in China, ranging from oil, electricity and water to the cost of parking and park entrance fees.

The order, issued jointly by six ministries on Wednesday, comes after a vaguely worded announcement on the need to prevent price rises by the State Council, or cabinet.

“Any unauthorised price rises are strictly forbidden . . . and in principle there will be no new price-raising measures this year,” the ministries said. Events since the initial State Council announcement that inflation in August hit an 11-year high of 6.5 per cent appear to have galvanised the bureaucracy into a tougher stance.

Qing Wang, of Morgan Stanley, said in Hong Kong: “As inflation has gotten worse, the government may have felt it had to toughen its stand.”

Rising inflation is sensitive in the run-up to the five-yearly meeting of the Communist party, which is due to open on October 15 in Beijing and will choose the senior leadership until 2012. The sharp spike in inflation is largely due to higher food prices due to a shortage of pigs after a disease killed millions and the rising cost of feed – a global phenomenon.

But Chinese leaders and economists are increasingly worried that the impact of inflation and the subsequent government policy response, could cause severe problems for the economy.

Though they were once solely a domestic concern, Chinese prices are now an international issue because of the possibility of the higher cost of consumer goods produced in China fuelling inflation in large export markets such as the US and Europe.

Beijing has raised borrowing costs five times this year, both to cool lending and to prevent negative real interest rates, which provide an extra incentive for people to take money out of banks to buy shares.

China has raised the one-year deposit rate to 3.87 per cent, which is about equal to the eight-month average for inflation but well below August’s 6.5 per cent.

The price freeze is the kind of administrative measure redolent of China’s former planned economy but it may be less effective in China today, economists said.

“They will not be able to control the price of everything,” said Chen Xingdong, of BNP Paribas, in Beijing.

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