Fighting Inflation: The Chinese Way

Premier Wen Jiabao yesterday announced in his work report at the opening of China's new Parliament- the National People's Congress nine new measures for China to bust inflation, which he described as ``the biggest concern of the people’’ and Strategy his government’s most pressing priority. Ths measures will be used to bring inflation down to 2007's level of 4.8% while maintaning a GDP growth around 8% yoy in 2008.

Food, which makes up about one-third of the CPI basket was the main driver of inflation. In a nutshell, the measures are intended to expand domestic food supply, control agricultural input costs, and restrict input and food exports.

The measures are to:

1) Give more policy support to raise output of grains, eating oils and meat;

2) Control exports of cereals and grains for consumption, and crops for industrial use, and restricts the use of corns for further processing;

3) Set up comprehensive grain stockpile system, and increase imports of grains facing severe shortage in China;

4) Check the rise in the price of agricultural inputs;

5) Set up a mechanism to monitor the relationship between prices and supply/demand of key food items and primary products;

6) Monitor and control the pace and timing of cost rises of public services;

7) Expedite plans to provide subsidies for the needy hurt by rising prices;

8) Monitor and regulate price increase, in particular those of medical bills and educational fees/ charges; and

9) Make provincial governors responsible for ensuring adequate grain supply, and city mayors for adequate vegetable supply.

My Take: Price increases of goods and services can be triggered by many developments, such as 1) an increase in oil prices; 2) a fall in a major currency eg USD; 3) a nationwide excessive pay hike; or 4) an increase in food prices caused by a drought/severe winter/cathrostophe.

In summary, combating inflation requires the prevention of excessive money supply growth. Only with "too much money chasing too few goods" can the general price level continue to increase. It is worthwhile to note that many countries around the world are having rapid money supply for many years already. Inflation can also be reduced if there are efficiency in the production of goods and services by adopting new technology or skill.

Preventing excessive money supply growth requires the private-sector banks to raise interest rates at levels that are high enough to prevent excessive growth in bank credit extension. To this end, the Reserve Bank sets its repurchase rate at an appropriate level. This whole process of changing interest rates to influence credit, money supply and inflation takes time to work through; this is why monetary policy requires patience! I believe China will be able to contain inflation as there is room to continue having a tightening monetary policy which will strenghtened the yuan further and slows down the growth.