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China changes the food equation, but inflation remains high

CPI

Rising food prices may be China’s biggest challenge this year, driving inflation to heights that haven’t been seen in more than two years and threatening social stability by angering millions of ordinary Chinese.

So it probably came as some relief when authorities were able to reformulate the country’s measure of inflation -- otherwise known as the consumer price index -- to reduce the effect of food prices.

The results of that shift were released Tuesday when China’s National Bureau of Statistics said inflation in January grew 4.9% from a year ago, much less than the median forecast of 5.4% in a Bloomberg News survey.

Analysts will now have to puzzle over what that means, especially given that inflation has now become a politically charged subject. In the past, it was generally understood that inflation was weighted so that food accounted for a third of the price index. It’s now a few percentage points lower, according to the statistics bureau.

It’s not uncommon for China to adjust how it calculates inflation to better reflect what people are spending their money on. When China’s economic reforms kicked off 33 years ago, urban residents spent about 60% of their household income on food. Today, that share has plummeted to 36%.

In the United States, grocery expenses take up about 12% of household income, and food prices account for less than a tenth of America’s consumer price index. 

“In the past, the share of food in China’s consumer price index was too much,” said Hu Xingdou, an economist at the Beijing Institute of Technology. “People are spending less and less on food as a total percentage of their income. What they should really do is increase the share of living expenses like gas, water and housing.”

Residential rental prices and utilities were weighted more heavily in January's inflation announcement. But to truly reflect China's rising cost of living, Hu said bureaucrats should include soaring home prices, which have become the primary burden for millions of Chinese.

Although China’s consumer price index can be dismissed -- not the least because it's widely believed to  be understated -- inflation data have a major bearing on financial markets because that information hints at where monetary policy may shift in the world’s second-largest economy.

China’s central bank raised interest rates last October for the first time in three years largely over inflationary fears. Promising to rein in excess liquidity, the bank followed the first hike with another in December and one more last week. Authorities also have increased the amount of money commercial banks have to hold in reserve.

This matters increasingly because China has been nothing short of a cash spigot the last two years – flooding the domestic economy with easy credit, propping-up global commodity demand and pledging billions of dollars to cash-strapped Europe.

Asian stocks were mixed Tuesday afternoon as dealers tried to interpret what China’s new inflationary numbers meant.

But there is no ambiguity that inflation is higher than central planners would like. January’s rate was even greater than the 4.6% year-on-year growth in December and fell just short of the 28-month high in November of 5.1%.

Few economists believe the country will meet the government’s 4% target for the entire year -- not when money supply has grown more than 50% since 2009 and the worst drought conditions in China in 60 years have been ravaging crops.

Rumors have abounded about additional tightening measures, including several more interest-rate hikes and a stricter oversight of capital reserves at banks, but analysts say planners will have to do much more.

“There is still clearly far too much liquidity in the system,” said Alistair Thornton, an analyst for IHS Global Insight, adding that the $158 billion in new bank loans in January “makes a mockery of the government's tightening rhetoric.”

-- David Pierson

Photo: Customers look at price tags for vegetables at a supermarket in Hefei, China. Credit: Reuters

 
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