China’s New Inflation Constraint

BEIJING – China’s economic-growth rate slowed in the second quarter of this year to 7.5% year on year, down from 7.7% in the January-March period, in line with Chinese economists’ forecasts in recent months. At the start of 2013, however, economists – both at home and abroad – were much more upbeat about the prospects for Chinese growth. So, what changed?

China’s growth has shown a cyclical pattern over the past two decades. Immediately after the collapse of Lehman Brothers in September 2008, China unveiled a ¥4 trillion ($650 billion) stimulus package. The economy rebounded quickly, with the annualized growth rate soaring to 12.1% in the first quarter of 2010.

To rein in a housing bubble and preempt a rise in inflation, the People’s Bank of China tightened monetary policy in January 2010. Then, to arrest the resulting loss of economic momentum, the PBOC loosened monetary policy in November 2011. Most people believed that rapid growth would quickly be restored once again. But the rebound did not come until the fourth quarter of 2012. Worse, instead of establishing renewed economic momentum, the growth rate fell in the second quarter of 2013 and all major forecasters are now revising their projections of full-year growth downward.

Of course, if the Chinese government wished, China’s growth rate in 2013 could still surpass 8%. But the country’s new leaders do not wish to pursue growth at the expense of structural adjustment, which has been delayed for too long. It seems that the government has established a floor for growth; as long as it is not hit, there will be no more fiscal or monetary stimulus.