In further evidence that Chinese inflationary pressure is spreading from food to "core", output and input price balances in November's purchasing managers surveys (official and private) reached new highs in their 5-6 year histories. Current readings suggest that producer price inflation will accelerate from an annual 5.0% in October to more than 10% in early 2011 – see chart. Faster PPI rises, in turn, should lift CPI ex. food inflation from 1.6% towards 3% – see previous post for a chart of this relationship. (Official CPI numbers, of course, understate on-the-ground inflation.)
Chinese policy-makers aim to quell inflation by clamping down on credit and money growth via hikes in reserve requirements and lower lending quotas, avoiding a big rise in interest rates. The strategy is flawed because any slowdown in monetary expansion is likely to be offset by a pick-up in the velocity of circulation as real interest rates fall deeper into negative territory, encouraging more spending and financial speculation. By delaying a significant rate hike, the authorities risk having to slam on the brakes in early 2011, with adverse implications for the economy later next year.
