Chinese economists are sounding alarms about the potential knock-on effects of surging US inflation and coming interest rate hikes on China’s already slowing economy, with the potential for falling exports, a weakening currency and capital flight all looming large.
The US Consumer Price Index (CPI) skyrocketed 7.5% year-on-year in January as core inflation rose at its fastest pace in 40 years. On Friday, Goldman Sachs said that it expected the US Federal Reserve to raise interest rates seven times – 25 basis points each time – this year to contain inflation, marking an increase of the five hikes it predicted earlier.
Chinese economists are warning that when the US starts raising rates it could cause sudden capital outflows from China and put pressure on the renminbi currency. They said the Chinese government should prepare to stimulate the local economy with fiscal measures if demand for China’s exports suddenly slows due to the weaker purchasing power of inflation-hit US consumers.
American shoppers paid 7% more for groceries in December 2021 year on year, eating into their spending power for electronics and other goods China supplies. Economists and analysts believe the US Fed will start raising interest rates in March, with the first move expected to be a 25 basis point rise, followed by six more hikes over the course of 2022.
If so, it will mark a stark turn from the extreme quantitative easing measures the US has applied during the Covid-19 pandemic.
Theoretically, higher US interest rates will create downward pressure on global stock markets as investors plow into higher guaranteed returns, Yang Shuiqing, a research assistant at the Institute of American Studies, Chinese Academy of Social Sciences (CASS), wrote in a recent article.
But judging from past experience, global stock markets might continue to rise or remain steady as it would take some time for the downward pressure to transmit, Yang wrote.
US rate hikes would dictate international capital flows and have a downward impact on the Chinese currency, Yang predicted, adding that the renminbi could soon see an end to its appreciation trend.
“It has remained unclear whether raising interest rates can effectively curb the US inflation. If inflation continues to rise, the actual purchasing power of the American people will decline and China’s exports to the US will decline,” she said, adding that US inflation was partly caused by rising wages and raw material prices during the pandemic.
Because high US inflation would continue for several more months, even with dramatic and rapid rate rises, the People’s Bank of China (PBoC) would have to closely monitor its money supply while the government should ensure local supply chains are prepared to produce enough goods to stabilize local prices, she said.
Cui Xiaomin, Xiao Lisheng and Luan Xi, researchers at the CASS Institute of World Economics and Politics (IWEP), said in an article that the PBoC should not tighten its monetary policy at this time as local inflationary pressure was still mild while the pace of the economic recovery in China had slowed significantly since the second half of last year.
“With the gradual achievement of herd immunity in the US and Europe, the economic recovery in the two regions will accelerate, but it will take some more time for the remaining part of the world to achieve herd immunity,” they wrote.
“Product demand will grow faster than supply, especially when the global supply chain in the emerging markets has been disrupted by the pandemic.”
They pointed out that many unemployed workers in the US and Europe lacked the incentive to return to work, resulting in widespread job vacancies and rising wages. They said the tight supply of raw materials, semiconductors and new energy products has also increased inflationary pressure in many countries.
China’s CPI rose just 0.9% last year, down 1.6 percentage points from 2020, the researchers noted. Although it’s likely that Chinese inflation would rise faster in 2022, boosting domestic economic growth was a more urgent policy task than containing rising local prices, they added.
“A package of stimulus policies should be introduced as soon as possible, especially to solve the financing difficulties of real estate companies and strengthen the fundamentals of domestic economic recovery,” they wrote.
The Communist Party of China’s (CPC) Central Committee’s politburo said on December 6 last year that the central government would support property markets and satisfy homebuyers’ demands in 2022.
On December 15, the PBoC cut reserve requirement ratios for banks by 50 basis points. The move, which will inject 1.2 trillion yuan (US$188.4 billion) into the economy, will help support small and medium-sized enterprises while allowing state-owned banks to allocate more funds to the property sector, analysts said at the time.
The move came as Evergrande Group, the world’s most indebted property developer, was teetering towards bankruptcy and missed several deadlines to pay its offshore bond investors in the last quarter of 2021.
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