What If CPI Continues to Rise?

What if the CPI continues to rise? We can wait a few months for new pig supplies which can bring down pork prices, but we have little influence on oil prices. What if oil prices hike to $150/barrel next year?

It is worthy of celebration, as Chinese are becoming bankers who at least can accurately estimate the rises in interest rate, no matter which stage the market economy in China is in. So many people were congratulating each other on the twitter in the evening when central bank announced rises in interest rate, which make “grinning”, and “kindly” Pan Shiyi impatient, and he asked “Are they out of their mind?”

It was for the third time that the central bank raised interest rates this year, and the fifth for this round of interest rate tightening cycle, meaning a rise of 25 basis points from July 7th. However, no one felt surprised about the fact: people who insist on raising interest rate felt no surprise of course, those who don’t believe in interest rate rises would not get surprised, as they thought this might be the last straw by the central bank to show their attitude, and those who feel uncertain about the effect of interest rate rises accept the fact calmly, as the central bank had made the choice for them, and 25 basis points of interest rate rise has no great influence.

The public was calm about one time of interest rate rise, and it is no difficult to accurately estimate the rise. For the central bank, it was a normal operation, and for the market, it was not surprised. At that moment, one time of rise in interest rate didn’t matter much, but it is of importance whether this was the last rise for this round of monetary policy.

For this question, people are not so sure, and at least for now there are different opinions, centering on the trend of CPI.

On July 2nd, four days before the central bank’s announcement, CICC had a half-year report meeting, and the economist from CICC Peng Wensheng said, “There may be a rise in interest rates soon, and one more time in the third quarter, depending on the future economic trend. There may be a change in financial and industrial policies in the fourth quarter.”

It seems that CICC, represented by Peng Wensheng, basically agreed on the idea that the tighting monetary policy may come to an end, but for a prudent and sound estimation, they put up a possibility that the interest rate might rise in the third quarter. The“sophiscated” forecasters would never set themselves in a dead end.

CICC’s estimation on macro policies is in fact based on its trend prediction of CPI. CICC expects the CPI growth rate to fall in the second half, to 4% or so in the fourth quarter, and the annual growth averages 4.8%; economic growth would drop from 9.7% in the first quarter to 8.4% in the fourth quarter, averaging 9.2% for the year. In 2012, the driving forces for economic growth may be weakened, contributing an annual average growth of 8.7%, slow in the first half and fast in the second; inflation will further ease, averaging 3.8% for the year.

Have you seen any problems? Isn’t it perfect? Economic growth steadily falls back to a reasonable high speed, and CPI also returns to a controllable and acceptable level. Such an ideal estimation belongs to the optimists, what about the pessimists? What if CPI continues to rise? We can wait a few months for new supply of pigs to bring down pork prices, but we actually can do few to influence the oil prices. What if oil prices hike to$150 per barrel next year?

If the international oil prices re- flect the strong inflation in international market, can CPI in China stay low alone? Even if CPI reach the top for the year in June or July, can we make sure that it will drop to around 4%? Even if the CPI in 2011 averaged 4.8%, within the expected 5% by Premier Wen Jiabao, won’t it turn to rise again next year, and to above 6%?

We should be optimistic about the future, while get prepared for the worst, shouldn’t we?

Liu Ligang, chief economy research officer in Greater China of ANZ Bank expressed the concern on continuing inflation. He doesn’t think the estimation that the inflation will peak in June or July makes any sense, as the “peak” does not mean this round of inflation will come to an end, but to a summit for this year. If the central bank stops the control at this time, and applys tightening monetary policies in hurry when 6% of inflation rate is seen again in 2012, the stability and credibility of governmental policy may be affected.

CCIC’s report may be too optimistic and Liu Ligang’s view might be too pessimistic, or too long prediction. The CPI trend in next year seems unpredictable for both us and the central bank, meaning the so-called perceptiveness of monetary policy is exaggerated. So, I do feel sorry for the policy makers in central banks for the blames they encounter. The desire for both low price level and high economic growth really brings a challenge for the central bank.

It will be really bad if the CPI never turns down. Interest rate can only rise gradually, and we can not raise it to a certain level at one time for next year’s inflation. What’s more, we still don’t know to what level the rate should be raised.

In addition, Liu Ligang also said that, the industry "seems" to have a slower growth rate at present, but it is doubtful whether the growth rate of industry will slow down greatly. In general, PMI has an obvious periodic performance, namely weak in Q2, improves gradually in Q3, and declines in Q4 again. If we call for a loose monetary policy only for weak PMI performance at the moment, we are short-sighted.

Whatever, Liu Ligang’s analysis is logical and reasonable, but for economic forecast, the greatest difference lies in the basic tendency for the economist’s analysis. Some economists pay more attention to inflation, and they will focus on possible long-term risks, with CPI always coming the first; some economists pay more attention to investment and employment, and they think fluctuations in investment pose the greatest threat, and they focus on industrial growth rate, with PMI the most important factor.

Which to choose, CPI or PMI? They may look similar, but they are quite different in the fundamental belief. Some are concerned that the CPI may continue to rise, while others worry that the PMI never turns downward. So, which is more important?

On one hand, although high officials emphasize the importance of CPI and the shopping basket, all they can see is monthly CPI data, and they can’t predict the CPI trend in next year, just as Liu Ligang. On the other, Chinese governments have been the best practitioners of Keynes Economics, so it is quite possible for the central government to tolerate a certain inflation and low interest rate, on premise that CPI doesn’t have accelerating rise, in hope of avoiding any possible economic weakening.

Therefore, I would prefer to believe CICC’s estimation, since the raise of interest rates is already enough in my opinion. What If not enough? The officials of the central bank can only take one step at one time and see what effect it can get before taking another step.

(The author: from China Times)