Chinese food price

The recent weeks have given us all a clear impression that the US is losing global influence on all fronts, and in particular on the economic scene. There is nothing strange about it. An economic textbook from my days at university put it clearly: A country running a steady current account deficit will sooner or later lose room for manoeuvring.

By running a persistent deficit, the US is now inextricably linked to its largest creditor, China. For a long time, China would be influenced by whatever the US decided. But now, China’s economic decisions will gradually have an influence on the US. Already now, China’s decisions concerning her currency reserve have the potential to influence the USD and US interest rates.  By implication, it affects the rest of us.

I have written about China’s problems that derive from the peg to the dollar. So far, China has profited enormously from that peg in terms of export. The flip side of the coin is a huge inflow of liquidity that China’s immature financial system cannot really cope with.

This inflow has given rise to a strong inflation in certain types of assets in China – mainly in property – but has so far not given rise to general consumer price inflation. China’s monetary authorities have tried to limit the financing of building projects, and using selective capital controls. It has cooled the economy somewhat but has not of course not resolved the real problem, namely the growth in the money stock resulting from the export surplus.

China’s Consumer Price Inflation is estimated to be in the region of 4% and ought not to be a course for real worry. But the food subcomponent is rising at a rate of 10% per year, and that is a course for concern. So much so that China is about to introduce selective price controls. A technique that has been tried on many occasions in the West. But it has never worked anywhere. It merely postpones inflation, it does not remove it.

The main reason that the Chinese government is targeting food inflation is straightforward. Despite the economic boom in the south and the east of the country, there are still large parts of the population in the North and the West that are eking out a living not much higher than the bare subsistence minimum. Authorities in Beijing rightly fears that if the inflation in food prices continue, it could lead to social unrest. Fears of social unrest remain one of the most powerful drivers of the Chinese leadership and has been so for several decades. Back in the 1970’s it was one of the drivers of the economic reform policy introduced by Deng Hsiao-Ping. After the Tien An Minh massacre it became clear that the crackdown on protesters had been severe as the authorities feared it could spread.

My guess is that the announced selective price controls and initiatives against food price speculation will have a temporary effect, but as long as the current account surplus remains capital inflows will continue unabated.

Only a change in the exchange rate policy will mean a real difference, and it will come at some point in time.

When China decides to take steps toward floating the Yuan, it will have a dramatic impact on the financing of the US current account deficit, and that will affect us all. While not many of us bide out time studying Chinese food prices, it is more important to us than you would think.