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No easy solution to reining in prices

CHINA'S blistering growth in consumer prices and new lending numbers in October surprised both market insiders and policy makers, igniting a fresh wave of concerns about the stubbornness of bubbles in the economy.

The jitters prompted the Chinese central government to announce on Wednesday a new round of remedial measures, including price controls and relief to poor households struggling to cope with mounting food prices.

Under the proposed policies, China would further provide subsidies to farmers and release state reserves of grains, edible oils and sugar on the market, as necessary, to guarantee adequate supplies.

Other government-led initiatives include cutting delivery costs, guaranteeing fuel supplies and cracking down on hoarding, according to a statement from the State Council, China's Cabinet.

Announcing the new policies in such an urgent manner underscored the government's anxiety over growing public expectations for further price hikes. However, the measures alone may fail to prevent prices from scaling new heights.

Inflationary pressure

China's economy is forecast to remain solid in the fourth quarter of this year, but inflationary pressure provides a timely warning of the need for the country to contain price rises in order to keep on the path of sustainable growth.

Many economists expect consumer prices to accelerate in the next two to three quarters, after they hit a 25-month high in October. Inflation has been driven by increasing costs of foods and raw materials as well as inflows of speculative money from overseas.

The concerns could lead the central government to adopt a more aggressive interest-rate hike stance, allowing the yuan to appreciate faster and further tightening credit as policy responses to rein in price increases.

China's Consumer Price Index, the main barometer of inflation, climbed 4.4 percent in October from a year earlier, according to the National Bureau of Statistics. The growth rate was the highest since September 2008, when it reached 4.6 percent.

October's CPI followed an increase of 3.6 percent in September. In the first 10 months of this year, the figure rose 3 percent - sending the central government's 3 percent target into a mission impossible territory.

Food costs, which account for one-third of the CPI basket, jumped 10.1 percent year on year in October, while the non-food costs gained 1.6 percent.

The nation's Producer Price Index, the factory-gate measure of wholesale inflation, climbed to 5 percent in October from 4.3 percent in September, indicating higher cost pressure as production becomes more expensive.

Chinese mainlanders are feeling the strains more than the data may indicate. Prices of basic necessities such as rice, cooking oil and clothing are much higher than a year earlier. Some vegetables and fruits doubled in prices over just the last few months.

Food prices are a sensitive issue with the mainlanders. Many consumers in big cities such as Shanghai and Beijing were said to be stockpiling some daily necessities, while people in Shenzhen were reported to be making trips across the border to Hong Kong, where prices remain lower.

Temporary relief

The latest policies mainly focus on controlling prices, increasing supplies and boosting consumption. Such administrative measures may work temporarily to tame expectations about inflation, but they don't necessarily solve fundamental problems in the economy.

The core of the problem is liquidity, both from inside and outside the country. Unless the government returns to a serious tightening stance in domestic money supply and takes effective measures to fend off inflows of hot money, prices may start to rise again after a short hiatus.

Banks on China's mainland extended a more-than-expected 587.7 billion yuan (US$93.3 billion) in new yuan loans in October. M2, the broadest measure of money supply, jumped 19.3 percent in the same month, outpacing a yearly target of 17 percent.

China has set a 7.5 trillion yuan target for annual new yuan loans this year, down from a record 9.6 trillion yuan in 2009. In the first 10 months, banks have already extended loans of 6.9 trillion yuan.

In fact, China has already begun to rein in money supply to deal with rapid loan growth and pressure arising from capital inflows, which it blames on the United States Federal Reserve's quantitative easing program.

A day before the October data were unveiled, the People's Bank of China raised the banks' reserve requirement ratio by 50 basis points. The central bank announced another rise of 50 basis points to lift the rate to 18.5 percent on Saturday. It also surprisingly hiked interest rates on October 20, the first increase in nearly three years.

More rate increases are expected next year. Recent positive figures on industrial output and exports will likely give the government room for more tightening. But money supply may not be cut significantly because China needs liquidity to feed existing investment projects and help export-oriented firms counter a potential slowdown in external demand.

Curbing hot money

Apart from seeking a balanced money supply, another priority for the central government is to ward off so-called "hot money," created as offshore investors seek to capitalize on higher interest rates, the yuan's appreciation and still growing corporate investment on the mainland.

The State Administration of Foreign Exchange, the country's foreign-exchange regulator, said in early November that it will tighten control over the auditing of overseas fundraising and demand banks hold more foreign exchange in an effort to stem the inflow of offshore money.

The Chinese currency regulator said it will strictly manage banks' short-term foreign debt quotas and introduce new rules covering their exposure to currency risks. It will also regulate Chinese overseas special-purpose financial vehicles and strengthen control on equity investment made by foreign companies in China in a bid to guarantee the country's financial security.

In the latest move, the foreign-exchange regulator started this month to limit housing purchases by foreigners and overseas companies. The Ministry of Commerce also vowed to combat "hot money" disguised as foreign direct investment.

Dealing with speculative inflows is never an easy job, especially when China still hopes to maintain growth of foreign investment and the confidence of multinational companies doing business here. It may need some efforts to distinguish which flows are speculative and which are genuine long-term investments.

Generally speaking, consumer prices may continue to post strong growth in the first half of next year despite the latest policies. The pressure will likely be relieved in the second half due to effective credit tightening and possible declines in housing and commodity prices.

But if prices suddenly expand in the next few months, we are likely to see more administrative countermeasures. The government may even temporarily freeze price increases for power, gas and water.


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