Analysis: China’s not shirking from chasing off dragon of inflation

IF inflation is a dragon that must be slain, China’s Premier Wen Jiabao has shown he is willing to sacrifice a part of the country’s most vital asset to do so – growth.

Cutting China’s 2012 economic growth target to 7.5 per cent at the start of the annual meeting of parliament last week says clearly that too rapid an expansion makes inflation too tough to contain, given the reforms needed to create widespread wealth.

That he did so in the week it was revealed that the annual rate of inflation in February receded to a 20-month low of 3.2 per cent, barely seven months after being twice that at a three-year peak of 6.5 per cent, speaks volumes about the gravity of price risks.

“The fact that we’re talking about the question recognises the fact that it’s not a slam-dunk that the inflation beast has been tamed,” said Jeremy Stevens, China economist at Standard Bank in Beijing.

“The average January-February inflation rate is 3.9 per cent and only a fraction below the government’s target for the full year,” Mr Stevens said. “Most people believe that in the second half of the year the inflation rate picks up again.”

The growth and inflation trade-off is particularly pointed for Wen and the Communist Party leadership which justifies its one-party grip on power with the promise of stability and prosperity for the country’s 1.3 billion people, of whom most are poor and an estimated 10 per cent live on less than $1 per day. The country’s economic ascent has increasingly concentrated riches in the hands of an urban elite in the last decade, during which China has become the world’s second biggest economy and accumulated £2 trillion of official reserves – the largest store of foreign wealth on the planet.

Wen needs wages for the country’s 800 million mainly low paid workers to rise quickly enough to help bridge the chasm between rich and poor, while pursuing painful structural reforms to increase domestic demand and cut dependence on volatile exports and foreign capital inflows.

And, because inflation is the surest way to ignite the social unrest that most worries the Party – given that the poor spend almost every penny of their income on basic essentials – he must do it while keeping a lid on costs.

Current predictions are that inflation will be within the government’s 4 per cent forecast for the year.

But with a dip down to 3.1 per cent by Q3, the implication is for a rebound in the last quarter, a worry for policymakers as most of the anticipated fall in the rate of inflation in the first half will come from the base effects of last year’s surge.

Analysts reckon China’s overall consumption growth will be 9.3 per cent in 2012, firmly ahead of forecasts for GDP growth at 8.5 per cent, meaning the whiff of inflation will be pretty strong in a £4.8 trillion economy that is bustling along quite speedily.