Rising Inflation: How China’s Paying for its Growth

July 7, 2011 - PRLog -- China raised its benchmark interest rate on Wednesday for the third time this year and the fifth time since October. The country has tightened its lending requirements. Cash is harder to get.

There is a pattern developing here. The country needs to slow down but not stall its economic engine in order to avoid escalating costs.

China is the second largest economy in the world and it’s continuing to roll along at a nice pace in spite of some slowing. The World Bank still feels that China can grow its GDP by 9.3% this year, which is well above the growth rates in the major industrialized countries.

The results reflect the significant growth difference between China and the United States and Europe. China is continuing to roll along at relatively high speeds, but it must be controlled.

And, while the growth is impressive, my economic analysis is simple. The superlative GDP growth is great, but the problem is the associated inflation that often surfaces as consumers spend more—and we know spending is increasing like a wildfire in China.

In May, the country’s Consumer Price Index (CPI) was at a 34-month high of 5.5%, which is high by any standard. Consider this: the average inflation rate in China from 1994 to 2010 was 4.25%. So there needs to be some work done here to relieve the inflationary pressures.

The reality is that prices continue to rise as consumers continue to spend, so we expect more tightening either via higher interest rates and/or higher bank reserve requirements in China.

Interest rates continue to ratchet higher and I expect the upward move to continue. There really is no choice; otherwise, inflation will become a significant problem.

Traders in Asia are probably encouraged by the Chinese government’s battle against inflation and to control the rate of growth. China needs to make sure to keep its course and tackle inflation since rising prices will hurt the majority of the 1.34 billion people living in China who are trying to just get by on a daily basis.

Chinese inflation is a real potential threat on growth and stability not only in China but globally with its trading partners. We could see higher cost Chinese-made goods as prices rise and this will drive up Chinese made goods sold in the United States.

You also need to consider that the slowing growth in China will hamper growth in other global regions, especially with its key trading partners being in Europe, the U.S., and Asia (including Japan).

Yet, overall, China is on the right path towards developing into a rising world economic power as well as a basin for incredible and sustained growth across many sectors, including industrial, mining, energy, services, and technology.

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