Research Dept. News
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Monthly Report, num 344 - March 2011
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International review - China
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China: new year, old inflation
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Inflation in China stands at 4.9% year-on-year in January and forces new wage increases.
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There's still a great risk of the Chinese economy overheating. The year of the rabbit has started with 4.9% inflation year-on-year in January, higher than December's figure of 4.6% and than the target level of 4% presented by the executive, although below the forecasts of the consensus.
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Once again, the rise in food prices -10.3% year-on-year in January compared with the 7.2% average in 2010- and the rising trend in housing costs stand out. However, we must point out that the new composition of the price index, with food having less weight, might have contributed to inflation being lower than expected by the consensus.
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Given these inflationary tensions, several regions in the country have chosen to raise the minimum wage. Shanghai and Guangdong province, in the south, will be the next regions to ride the wave of wage increases. Although some people are warning of rising labour costs as a factor that might encourage inflationary pressures, we mustn't forget that the gains in Chinese worker productivity (in the order of 10% annually in the last decade) largely offset these wage rises.
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Within this context, the monetary authorities have continued to take a restrictive stand. At the beginning of this year, the central bank once again raised the official interest rate by 0.25 basis points (up to 6.06%), the third rise since October. The further increase in the cash reserve ratio in mid-February was also a surprise, the second raise in little more than a month and the eighth since the start of 2010, putting the ratio close to 19.5% for large banks.
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Even tougher monetary conditions: interest rates and cash ratios.
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This marked tightening up of monetary policy seems to have had an effect on the indicator for credit which, at a little more than 430 billion renminbi in January, is starting to show the correction so desired by the central bank.
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The regulations of the last few weeks have once again highlighted the tension existing between monetary policy and exchange rate policy. The recent hikes in the interest rate attract more capital flows towards China, which puts pressure on the country's aim for the renminbi to appreciate gradually. We believe this dilemma will be resolved with a somewhat higher appreciation rate than we are used to, but not much more (around 0.5% per month).
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Undoubtedly, if the Chinese currency were more flexible, this would help to correct external imbalances. In particular, January's trade figures merely confirm the strength of exports. In spite of the reduction in the trade surplus, a consequence mainly of the festivities to celebrate the Chinese Lunar New Year, both exports and imports grew much more than the consensus expected.
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