Beijing, August 26, 2023 – China’s economy has slipped into deflation, marked by the first year-on-year decline in consumer prices in over two years, according to official data released by the National Bureau of Statistics of China (NBS). This development has raised concerns about the country’s economic recovery in the post-Covid era, as domestic spending weakens and global demand for Chinese products wanes.
The Consumer Price Index (CPI), the primary gauge of inflation, dropped by 0.3% in July, following a flatline in June. This negative reading was not anticipated by analysts who had predicted a more modest 0.4% year-on-year decline. July’s deflationary figures mark a significant shift from early 2021, when prices were also weaker due to the impact of the Covid-19 pandemic on demand, particularly in areas like pork prices.
The sluggishness in consumer demand has been mirrored in trade figures, as separate data reveals that China’s imports and exports experienced steeper declines than expected. This decline can be attributed to reduced global demand for Chinese goods.
One of the contributing factors to China’s deflationary situation is a slowdown in retail sales. Businesses that stockpiled goods in anticipation of a surge in demand following the lifting of pandemic restrictions are now under pressure to reduce prices. This pressure has also been exacerbated by the entry of Tesla into China’s electric vehicle market, triggering a price war that has driven down the cost of cars.
Falling food prices have also played a role in the deflationary trend, dragging down the overall cost of living. The core inflation rate, which excludes food and energy costs, increased to +0.8% year-on-year in July, up from +0.4% in June. This uptick in core inflation demonstrates that while certain sectors are grappling with deflation, others are experiencing moderate inflationary pressures.
Additionally, China’s factories are responding to weakening demand by reducing the prices of their goods. The Producer Price Index (PPI), which tracks factory gate prices, reported a -4.4% drop in July, following a 5.4% decline in June. This suggests that the manufacturing sector is feeling the impact of both weakening domestic demand and a less robust global economic environment.
The deflationary situation is likely to intensify calls for government stimulus, as Beijing grapples not only with weakening trade but also a slowdown in the property sector. The Chinese government, while acknowledging these concerns, has maintained a cautious approach to stimulus measures thus far.
Elsa Lignos, the global head of FX strategy at RBC Capital Markets, noted, “There is an expectation that this will add pressure to policymakers to deliver stimulus though so far measures have been cautious.” Experts believe that the deflationary conditions in China could potentially ease inflationary pressures in the West, offering some relief to economies that have been battling high inflation.
However, the situation has raised alarms for European companies and economies that rely on China as a key trading partner. Tom Hopkins, a portfolio manager at BRI Wealth Management, highlighted that China’s shift into deflation contrasts with the inflationary challenges faced by many Western nations.
While some Chinese authorities downplayed concerns about deflation, the latest data underscores a weakening Chinese economy, which has implications not only domestically but also for global markets. The Biden administration’s plans to restrict certain investments in Chinese technology companies add further complexities to the economic landscape.
In conclusion, China’s economy entering a deflationary phase is a stark reminder of the multifaceted challenges the country faces in its quest for sustained post-pandemic recovery. With global demand uncertainty and internal economic pressures, policymakers will need to carefully balance the need for stimulus with the risks associated with deflation. As China navigates these economic headwinds, the global community will be watching closely to gauge the potential ripple effects on the interconnected world economy.