The author is ANZ Greater China chief economist Li-Gang Liu
China’s CPI inflation picked up slightly to 3.2% in October, driven by food (6.5%) and rental (2.6%) prices.
Sequentially, CPI rose 0.1% month-on-month, down from 0.8% previously. While the CPI inflation is likely to exceed 3% again in November, the whole year inflation will be around 2.7%, well below the control target of 3.5%.
PPI inflation remained negative for the 20th consecutive month, at -1.5% year-on-year versus September’s -1.3%.
In the meantime, ANZ China Commodity Price Index (CCI) also hovered around the current level for almost two months, suggesting that the demand in the real sector remains weak and the PPI inflation is unlikely to turn positive this year.
As long as PPI inflation remains negative, there is little pass-through effect to CPI inflation.
The People’s Bank of China has tightened the market liquidity conditions since mid-October as the shadow banking activities re-emerged in August and September, reflecting a tightening bias in the monetary policy. In this case, the funding costs will likely remain high before the Chinese New Year.
However, a monetary tightening will cause the market interest rates to increase, triggering even stronger capital inflows and RMB appreciation expectations.
We think that China is facing a policy dilemma between generally stable RMB exchange rate and the rapid capital account openness. As the real sector remains weak, the strong capital inflows will eventually go to the property sector, raising concerns of asset bubble.
(The article has been edited for clarity)