Tuesday, 13 May 2008

Tougher stance on inflation

On the back of the steep rise in prices of 8.5% in April China announced further monetary tightening.

What is more worrying is the suspension of the appreciation of the RMB. This may prove to be counter-productive.

The story is covered expertly by the FT (saving me the time).

Beijing takes tougher stance to combat steep rise in prices [FT]

China announced fresh monetary tightening measures yesterday after inflation data showed price rises of 8.5 per cent in April, the second highest monthly figure for 12 years.

The People's Bank of China lifted the share of funds that commercial banks must leave on deposit with the central bank by 50 basis points to 16.5 per cent, the fourth increase this year.


While Beijing is maintaining an official monetary tightening bias, it appears to have suspended the appreciation of the Chinese currency - regarded by economists as another key instrument for fighting inflation.

The renminbi has stalled in recent weeks against the dollar, after appreciating at an annualised rate of nearly 20 per cent in the first quarter of this year.

Beijing-based economists and government officials, speaking on condition of anonymity, said the PBoC, long known as a supporter of faster currency appreciation, was now being blocked by other ministries.

They said that the slowing rate of the growth of China's exports had prompted some ministries to press for a pause in renminbi appreciation, in order to minimise the impact of the currency on export industries and employment.

China recorded a trade surplus of $16.7bn in Aprilbut the rate of growth of imports outpaced exports.

The PBoC has generally argued that currency appreciation is essential to stemming the growth of the trade surplus and the unchecked flow of speculative funds into China. Rising food prices continue to be the largest contributor to inflation, with year-on-year price increases in this sector hitting 22.1 per cent in April, compared with 21.4 per cent in March.

But economists say the underlying driver of inflation is the excess demand created by the huge flow of funds into China through the trade surplus and other avenues, as well as the velocity at which money circulates in the economy.

Beijing's efforts to talk down inflation by issuing headline-grabbing edicts that threaten price controls and other administrative measures do not seem to have borne fruit so far.

"As underlying inflationary pressures remain undiminished, it is vital for the government to keep its tightening policy stance to anchor inflationary expectations," Goldman Sachs said.

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