My Blog

March 18, 2008

TUE 18 MAR

We'll do anything to kill inflation except threaten employment By Michael Pettis

In his press conference today for the conclusion of the annual session of the NPC, the country's top legislative body, Premier Wen smiled bravely at the attendees and television cameras and said that the government is fully confident that they can control inflation this year, although he admitted that it would not be an easy job.  According to the Xinhua report:

 

Wen acknowledged that it will be hard for China to attain its goal of holding the rise in consumer price index (CPI) at about 4.8 percent and controlling price hikes this year, which was made even more difficult by the worst sleet and snow disaster in decades in the first two months of this year.  “But we have no plan to change this goal,” he told reporters.

 

The premier explained that it shows the resolve of the government to control price rises and curb inflation by setting the goal, and it will help stabilize the people's expectations for price rises by doing so.

 

During that same speech Wen said “We are under mounting inflationary pressure. We also face the potential risk of drastic economic fluctuations.”  He announced no initiatives but said: “If we take the right measures, we are confident we can control inflation”.  He added: “We are sticking to the 4.8 percent target because it helps stabilize consumer expectations.  When prices soar, expectations can be more horrifying than the increases.”  

 

I am not sure what it means to say that inflationary expectations are more horrifying than inflation itself, but I suspect he means that rising expectations have a bigger impact on future inflation than current inflation does.  The trick, in that case, is to control expectations, and that means talking it down.

 

Of course I don’t agree.  In China’s case I think inflation is a consequence of monetary expansion, not “expectations”, but by saying this he more or less admits that the 4.8% inflation they have targeted for 2008 is not likely to be achieved.  He only made the announcement because he is trying to talk inflationary expectations down.  This strategy is not exactly costless, although I guess he didn’t have many options.  It undermines government credibility to insist on something that most people know is likely to be untrue and which will be almost impossible to achieve.  It reminds me a little of President Ford’s strategy for fighting inflation in the 1970s, which as far as I could tell consisted mainly of wearing a “Whip Inflation Now” button during all his television press conferences.

 

Premier Wen also said he was “deeply worried’ about the US and global economy and the fallout from the continuing weakness of the dollar.  He talked about using the full range of monetary policy options to address the inflation and overheating problems, which the market took as a signal that we would see a more aggressive stance on interest rates (the stock market was down nearly 4% today).  “No matter what monetary policies are adopted, we shall weigh their advantages and disadvantages and take both aspects into consideration,” he added. 

 

It sounds to me like he is saying that the financial authorities are willing to consider any policy option, and they acknowledge that at this point the option is not between good policies versus bad ones but between bad ones versus worse.  Actually I should amend this to mean almost any policy option.  According to the Financial Times he was asked a question abut employment versus inflation:

 

Asked whether he would sacrifice economic output to bring down inflation at the possible risk of increasing the jobless rate, Mr Wen indicated that growth and employment remained the overarching priorities. “We must ensure that our economy will grow at a proper rate in order to ensure employment,” he said.  “China is a developing country with 1.3bn people. We have to maintain a certain degree of fast economic growth to provide enough jobs.”

 

That is the nub of the policy dilemma.  One of the consequences of China’s expansionary monetary regime has been fairly rapid employment growth, but not enough growth to eliminate altogether the threat of rising unemployment.  The problem the government faces is in figuring out how to engineer a sharp slowdown in monetary growth without triggering job losses.  It is not going to be easy, but it probably mean that they will take serious steps to address monetary expansion only when the consequences (e.g. inflation) are so severe that they cannot be ignored.

 

Meanwhile the February wholesale price index was released today.  February wholesale prices were up 9.2% year on year and 1.1% month on month (which amounts to an annualized 14%).