In the US, consumer prices have skyrocketed over the past several months. But in China, consumer prices have only gone up very modestly, and producer prices have been the big ones.
China’s policy space
Economists say that the prolonged inflation trend is significantly narrowing the room for the People’s Bank of China (PBoC) to cut interest rates and support growth. According to data released on April 11, the producer price index (PPI) and consumer price index (CPI) in China in March increased more than analysts expected.
“High food and energy price inflation are preventing the PBoC from cutting interest rates, despite the rapidly deteriorating economy,” the Nomura team of economists wrote in an April 11 note.
Nomura’s report earlier this month also noted that China’s one-year deposit rate was only marginally higher than the CPI. This reduces the relative value of bank deposits in China.
Internationally, rising US interest rates are closing the gap between the US and Chinese 10-year Treasury yields, thereby reducing the attractiveness of Chinese bonds. This gap will be narrower if PBoC lowers interest rates.
According to Reuters, the 10-year Chinese government bond yield fell below the 10-year US yield on April 11 in 12 years. Before that, Chinese bond yields were typically 100-200 basis points higher than those of the US.
“We think April could be the last chance for China to cut interest rates in the short term before the Fed shrinks its balance sheet,” Bruce Pang, head of macro and strategy research at China Renaissance, told CNBC.
Minutes of the meeting released by the Fed last week showed that most policymakers agreed to reduce the number of central bank bonds held at twice the rate compared to the pre-pandemic period. Most likely, this plan will be launched in May.
Data released by the US Department of Labor on April 12 showed that the consumer price index (CPI) in March 2022 increased by 8.5% over the same period last year. This highest level of inflation since 1981 could prompt the Fed to urgently tighten monetary policy further through a reduction in the size of its balance sheet and an increase in operating interest rates.
“If inflation continues to rise, it will likely further limit China’s ability to adjust policy,” said Pang. He noted that Chinese investors are increasingly looking to the PBoC to act after the recent statements of senior government officials.
At a meeting before the State Council last week, Premier Li Keqiang pledged that China adjusts monetary policy to support growth “at the appropriate time”.
Profit margins are tight
China’s PPI rose 8.3% in March, lower than the 8.8% increase in February and the lowest level since April 2021 but still well above CPI inflation. Coal and oil products were the biggest gainers.
In the CPI, the most significant increase came from transportation fuels, 24.1% higher than the same period last year. Global oil prices have skyrocketed since the Russia-Ukraine war began in late February.
According to Wind Data, China’s CPI rose 1.5% in March, up from 0.9% in February and at the fastest pace since last year’s December. Pork prices plummeted 41.4% year on year, helping to drag down food inflation, while vegetable prices increased by 17.2%.
“The large gap between China’s producer price inflation and consumer price inflation implies that corporate profit margins continue to come under pressure,” said Bruce Liu, CEO of wealth management company Esoterica Capital.