China is concerned about inflation – but it’s not the top priority

A masked man walks past the headquarters of People’s Bank of China, the central bank, in Beijing, China, as the country is struck by a new coronavirus outbreak on Feb.3, 2020.

Jason Lee | Reuters

BEIJING – While investors around the world fret about inflation, China’s central bank has more problems than rising prices to worry about.

Central banks around the world have kept monetary policies simple and cut interest rates to support growth after last year’s coronavirus pandemic, and China is no exception.

Now that consumer and producer prices are rising, investors are nervous as they try to see if central banks will raise interest rates.

But the People’s Bank of China – and economists analyzing their statements – aren’t as concerned about inflation or expect much monetary policy changes as the country faces more urgent risks.

In its first-quarter monetary policy report released late Tuesday, the central bank focused on that the foundation for China’s economic recovery is not solid.

“Resident consumption is still limited and investment growth is inadequate,” the report said in a CNBC translation of the Chinese text. The PBOC added that smaller, privately owned businesses are still facing difficulties and securing employment remains a major challenge.

China keeps interest rates stable

The 10-year Chinese government bond yield was over 3.1% while the Shanghai Composite rose 2% this week. China announced Tuesday that April producer prices rose by the highest level in more than three years – up 6.8%. However, consumer prices only rose 0.9% as pork prices fell.

“If prices rise in China, it is not an overheating of domestic demand that could warrant a change in monetary policy to slow this down,” Francoise Huang, senior economist at Euler Hermes, an Allianz subsidiary, said in a Wednesday Telephone interview. “I still think that key rates will not change this year.”

The Chinese central bank left its key interest rate unchanged for a year. The next monthly announcement of the tariff is due on May 20th.

In its quarterly report this week, the central bank added that “prudent” monetary policy is flexible, targeted and appropriate.

High employment pressure

Zong Liang, chief researcher at the Bank of China, does not expect a change in Chinese monetary policy until the second half of the year at the earliest. He noted that the central bank had kept policy relatively tighter compared to other countries over the past two years.

Although he expects Chinese consumers to pick up their spending again in the second quarter, especially as China is stepping up local vaccinations, consumption is still in a recovery phase.

In a token of Beijing’s economic caution, authorities said at a meeting on Wednesday that pressures to support employment remained high. The central government decided at the meeting to extend support for unemployment in the pandemic until the end of this year.

However, the level of support was reduced compared to the previous year. China’s economy grew 18.3% in the first quarter after declining at the height of the pandemic last year.

We believe that a hasty exit from economic policy will also bring new financial risks.

Li-Gang Liu

Chief Economist of China, Citi Research

Regardless, Wednesday’s data showed that credit growth slowed more than expected in April, reflecting the credit crunch, according to some economists.

“We believe monetary conditions are likely to have tightened, but overall lending policy continues to support a more balanced recovery in the real economy amid relatively robust medium- and long-term credit growth,” said Bruce Pang, head of macro and strategic research at China Renaissance.

“The unexpectedly sharp slowdown in short-term lending in April could also (in part) be due to increased regulatory scrutiny over the illicit use of business and consumer credit to finance real estate,” he said.

Real estate risks

Real estate is one of the main areas of investment – and speculation – in China. To keep price gains from spiraling out of control, authorities have tried to act cautiously.

The People’s Bank of China said in its first quarter monetary policy report that house prices need to be kept stable, stressing that homes are meant to be lived, not speculated.

Although markets seem to believe that China will accelerate its exit from post-coronavirus pandemic policies, there is currently no strong case for the central bank to do so, said Li-Gang Liu, China’s chief economist at Citi Research.

“Financial fragility has increased, as illustrated by the enlarged housing bubble, increased debt and increased risk of default,” said Liu. “We believe that a hasty withdrawal of economic policy will also bring new financial risks with it.”

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