My Blog

December 21, 2007

A few weeks ago I saw a report that China had suffered its worst drought in recent times.  The dates and details were a little vague, so I tabled the article and decided at some point I wanted to find out a little more about it.  Today both Bloomberg and the South China Morning Post have articles about the drought.

Bloomberg stares its piece by saying:  “China's most severe drought in a decade is expanding throughout the country, threatening the normally humid areas along the southern coast.”  I searched for more news on China Daily and found a whole slew of articles.  Parts of China are suffering their worst drought since the early 1950s, about 400,000 hectares of crops have already been damaged this year, and the State Flood Control and Drought Relief Headquarters reports that 37.4 million tons of grain will be lost.  China Daily adds: “In recent times, drought has been striking more areas of the country with greater frequency. It had extended from the north and western regions to the south and eastern areas, worsening water supply conditions for both agriculture and industry.”

On the other hand, the country seems to be making good preparations for the spring festival.  Zeng Liying, the deputy director of the State Grain Administration, said on the agency’s website that "China has stored enough grain to fully meet market demand.”  She also said, somewhat surprisingly to me given the other news, that "The country's grain harvest is expected to exceed 500 million tons this year, rising for the fourth consecutive year."  

Not surprisingly food and grain consumption shoots up during the annual spring festival, and I would guess that the government will do what it can to restrain price increases because it will want a happy festival.  If that means using up grain stocks to depress prices temporarily, it will help in the short term, which is fine if Chinese inflation really is just a temporary food problem.  In that case fighting inflationary expectations will be the government’s main task, and using up food stocks to depress prices will be a successful strategy.

If inflation is really a monetary problem, however, or if continued drought drives food prices up over a longer period, trying to restrain price increases in the short term may cause more trouble later in 2008 after the festival. With food prices around the world rising too, I continue to believe that inflation next year is going to shock on the up side.  As an aside, the government this week promised to double its fertile-sow subsidy to farmers.  It will also spend additional money to support large-scale pig production.  I assume that this means that they are concerned that pig-rearing is growing as fast as they had hoped.  I think the government and most other forecasts for CPI inflation in 2008 are in 3.8-4.5% range (I need to check, so please don’t accept these numbers uncritically).  I think it will be much higher.

Comments (3) for "Droughts and inflation"

As I thought before, the inflation in China is a food/ oil problem. One thing is that China has never reached the full employment. The fact that China is still a labor intense economy limits the wage growth, thus it limits the domestic consumption growth. This means an expanded monetary policy leads to the expanded production ability which has to be met by the international demand. Job is the ultimatum reason of the currency problem. The only fundamental solution that I can see is to upgrade to capital intensive economy, with R &D, education, technology... By fatbrick - 12/21/2007 1:31 AM

My take is quite different. I see inflation as a monetary problem, not a food/oil problem and I think the only solution is either to get capital to leave the country, or to adjust the currency regime. Your solution may be necessary for China's long-term development, but the monetary problem is an immediate one. By Michael Pettis - 12/21/2007 11:23 AM

I agree with Prof. Pettis notion that inflation is a monetary phenomenon. Long term what's interesting is that China has been producing rising wages without increasing manufacturing employment. What I think is happening is that as manufacturing productivity increases, this generates wealth that moves people from low value agriculture into high-value services, and its the service economy where the large employment gains have been made. Like other economic concepts, the concept of unemployment or full employment has to be rethought in a Chinese context. I think it helps to think of Chinese agriculture as the world's largest make-work welfare program that keeps people busy doing something until they can get moved to higher productivity work. By Twofish - 12/31/2007 2:18 AM