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Stable price increases expected in 2005
(China Business Weekly)
Updated: 2004-12-26 10:57

China's consumer price index (CPI), the major indicator to evaluate inflation, is expected to grow 4 per cent in 2005, roughly the same as this year's figure.

The prediction is based on the expected eight-percentage-point increase next year in production material prices, the lagging influence of this year's raw material price increase and the remaining strong economic growth momentum.

New round of expansion

Since late 2002, China's economy has entered a new stage of growth. Starting this year, prices have continued to grow.

The CPI increased 5.3 per cent year-on-year in July and August, the highest monthly figure since 1997. In September, the CPI grew 5.2 per cent, and then fell slightly to 4.3 per cent.

In the first 10 months, food prices grew 10.8 per cent year-on-year, with grain prices growing a staggering 28.4 per cent.

Surging food prices were the main contributor to the overall growth in CPI. But rising residential prices -- including gas, electricity and tap water also resulted in a 0.6 percentage point growth in CPI in the first 10 months.

After analyzing the above figure, we can find that this year's growth in CPI was mainly a result of surging food prices. The rising price of production materials has not been fully reflected in consumer prices. This is quite different to previous periods of inflation in China, such as between 1988 and 1989, and between 1992 and 1993.

The current economic expansion, starting in late 2002, took place after the proactive fiscal policy launched in 1998 have helped form a huge productive capacity. Runaway inflation has not taken place in China due to overall surging demand. However, due to the imbalanced allocation of China's production capacity in different sectors, excessive demand appeared in some sectors while other sectors continued to be oversupplied. This has been reflected in the price rises of energy, food and raw materials and the declining price of manufactured products.

Growth momentum remains

With the ongoing macroeconomic adjustment aimed at curbing surging fixed investment, China's economic growth has started to slow down, helping reduce the excessive demands on energy and/or raw materials. In the first three quarters of 2004, the GDP growth rate was 9.8 per cent, 9.6 per cent and 9.1 per cent, with GDP expected to rise by 8.7 per cent in the fourth quarter. GDP is expected to grow by 9.3 per cent for the whole of 2004.

China's GDP growth may slow to 8.5 per cent in 2005, which will reduce demand for raw materials, but the consumer prices are unlikely to display the same downward trend due to the lagging influence of this year's strong investment growth.

China's consumer prices generally rise one year after investment increases. This year's surging prices of raw materials and energy will be reflected in next year's consumer prices.

In addition, consumer prices will be influenced by the continued growth of international raw material prices. The International Price Index A worked out by the National Development and Reform Commission, which reflects the spot price of commodities, grew 30.02 per cent in the first 10 months of this year. Oil prices surpassed US$55 per barrel. Due to the unstable international situation, oil prices will remain high for the foreseeable future. The rising international raw materials price is accompanied by China's growing dependence on imported energy and minerals.

Generally speaking, although the demand on consumer prices will not grow significantly, the CPI will maintain a growth rate of 4 per cent, roughly the same as this year.

Varying situation

Food prices will continue to grow slightly in 2005, while strong price hikes are expected in the services and real estate sectors.

The production capacity of China's farmers has greatly increased as a result of beneficial policies and the introduction of advanced technology. The global grain harvest in 2004 has resulted in falling international food prices. China's grain harvest this year also reduced the pressure of food price hikes. However, China is expected to remain with a grain shortage of 10 million to 20 million tons in 2005, making slight price growth possible in the coming year.

Despite surging production materials prices, consumer product price has not displayed corresponding growth in the first 10 months of this year. This was caused by the overproduction and oversupply of China's consumer goods. However, rising production costs and the dwindling profits of consumer goods producers will eventually lead to a price rise in consumer products. The pressure of rising salaries also increases the production cost of consumer goods. It is expected that the price of China's consumer goods will shift from downward trend to slight growth next year.

In 2005, the price of public utilities and service is expected to grow faster than it did in 2004.

The nationwide price growth of public utilities such as water, electricity and gas in this year has caused China's residential prices to rise 6.4 per cent and 6.8 per cent year-on-year in September and October. The prices of public utilities will continue to grow next year. In fact, due to policy restrictions, these prices have not been increased in accordance with their rising costs. In the coming year, with continued cost pressures and with the new policy to encourage the efficient utilization of water and electricity, the prices of public utilities may increase faster than in this year.

Thanks to the reduced growth rate of fixed asset investment, the increase in production material prices may be slower in 2005. The price of production materials increased by 14 per cent year-on-year in the first 10 months of 2004. The growth rate was 6.4 percentage points higher than in the same period of last year.

The growth momentum of production material prices will not be significantly reduced in 2005 despite the reduced investment growth rate and the higher base price. Coal prices will continue to grow next year due to strong demand from power plants, but the prices of steel and other metals will remain stable due to surging production capacity. Production material prices are witnessing an overall rise of 8 per cent.

In the real estate sector, commercial property prices increased by 12.5 per cent to 2,759 yuan (US$333.21) per square metre. Surging property prices were a result of a number of factors, including low bank interest rates which led to rising property investment, reduced land and credit supplies, rising land prices and the growing prices of steel and cement.

These factors cannot disappear overnight, meaning that property prices will continue to grow in 2005. Rising property prices will stimulate unreasonable investment in real estate development, causing potential real estate bubbles.

Price reform

Although the overall price increases in 2004 and 2005 are not too high, the surging prices of daily necessities, such as food and water, has made matters worse for poorer people. The government should increase its subsidies to poorer residents.

Meanwhile, supervision of the price of public utilities should be strengthened and the prices of water and electricity should be more reasonable. The price of excessively used electricity and water should be increased, while the price of water and electricity for ordinary residents should not be increased too rapidly, encouraging people to save water and electricity but not having a serious impact on their daily spending.

By Zhang Feng, senior economist at the National Bureau of Statistics.

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