China slips into deflation as post-Covid recovery falters

BEIJING - China’s consumer prices fell into deflation in July, while factory gate prices extended their declines, as the world’s second-largest economy struggled to revive demand and pressure mounted for the authorities to release more direct stimulus.

The consumer price index, the main gauge of inflation, fell 0.3 per cent in July, China’s National Bureau of Statistics (NBS) said on Wednesday, having flatlined in June. Analysts polled by Bloomberg had anticipated a 0.4 per cent decline in the index for July.

It is the second round of disappointing data for the Chinese economy this week, after figures on Tuesday showed the country

suffered its biggest fall in exports

for more than three years.

Deflation refers to falling prices of goods and services and is caused by a number of factors, including waning consumption.

And while cheaper goods may appear beneficial for purchasing power, deflation poses a threat to the broader economy.

As prices fall, consumers tend to postpone purchases in the hopes of further price cuts. A lack of demand then forces companies to reduce production, freeze hiring or lay off workers, and agree to new discounts to sell off their stocks – weighing on profitability even as costs remain the same.

China experienced a short period of deflation at the end of 2020 and early 2021, due largely to a collapse in the price of pork, the most widely consumed meat in the country. Prior to that, the last deflationary period was in 2009.

Many analysts fear a longer stretch of deflation this time around, as China’s main growth engines stall and youth unemployment is at a record high of over 20 per cent.

Ongoing turmoil in real estate, a sector that has long accounted for a quarter of China’s gross domestic product (GDP), is the “main source” for this “deflationary shock”, said economist Andrew Batson of Gavekal Dragonomics.

Deflation is also being driven by flagging exports – historically a key source of growth for the Chinese economy, Mr Batson said.

Meanwhile, the producer price index fell again in July by 4.4 per cent, marking the 10th consecutive month of contraction.

The index measures the cost of goods leaving factories and gives an overview of the health of the economy, and was down 5.4 per cent in June 2023.

Declining producer prices mean reduced margins for companies.

The figures come amid mounting fears that China is entering an era of much slower economic growth akin to the period of Japan’s “lost decades” since the 1990s, which saw consumer prices and wages stagnate for a generation.

China’s anaemic prices contrast sharply with the crippling inflation most other major economies have seen, which forced central banks elsewhere to rapidly raise interest rates.

However, there are also signs global inflation may be peaking and, in some cases, reversing with prices in Brazil sharply slowing, raising the sudden prospect of an interest rate cut in the world’s 10th largest economy.

The Chinese authorities have downplayed concerns about deflation. Mr Liu Guoqiang, deputy governor of the central bank, in July said there would be no deflationary risks in China in the second half of the year, but noted the economy needs time to return to normal after the pandemic.

The NBS said in a separate statement that the consumer price index was expected to rebound as the economy recovers and the relationship between supply and demand improves.

The government has set a consumer inflation target of around 3 per cent this year, which is up from the 2 per cent recorded in 2022.

Despite recent policy stimulus, consumers and manufacturers remained cautious amid the still-weak housing market and high youth unemployment, and a diminishing appetite among foreign firms to invest in China.

Investors have been anxiously waiting for policymakers to inject stimulus measures after the powerful Politburo meeting in July, with the stock market mostly underwhelmed by the lack of concrete actions.

While deflation boosts the case for the People’s Bank of China to add monetary stimulus, the central bank is facing several constraints that are making it cautious,

including a weaker yuan

and elevated debt levels in the economy. Analysts expect the bank to take moderate steps to ease monetary policy for the rest of this year. AFP, REUTERS