24 March 2019
Fears that China is exporting deflation have grown as Beijing has changed policy to allow the yuan to depreciate. Photo: Bloomberg
Fears that China is exporting deflation have grown as Beijing has changed policy to allow the yuan to depreciate. Photo: Bloomberg

China, exports and the deflation accusation

A widespread concern in recent months has been that China is “exporting deflation” to the rest of the world. The argument generally runs that Chinese exporters are cutting prices, thereby intensifying global competitive pressures and holding down prices in the rest of the world.

This fear has been intensified by the change in exchange rate policy that has allowed the Chinese currency to depreciate by around 3 percent against the dollar this year. This move, it is argued, will open the way for Chinese exporters to cut prices more aggressively.

It is certainly true that Chinese producer and export prices are declining. Producer prices have fallen by a cumulative 6 percent since February 2012. Export prices, meanwhile, have shown weak or declining annual growth since the third quarter of 2012.

The direct effect of falling Chinese export prices on inflation elsewhere is, however, likely to be limited.

China’s share of US imports is around 19 percent, meaning that the direct impact of China on US import prices would be to cut them by around 0.1 percent. Imports are around 16 percent of US GDP so taking this as a rough proxy for the share of imported content in US consumption, we can say that present Chinese import price deflation is likely to directly cut the US CPI by only 0.013 percent.

While the direct impact of Chinese economic developments (via export prices) on inflation in the United States and other advanced economies is unlikely to be large, there may be important indirect effects to consider.

First, intense competition from China and also other Asian economies may be holding down price increases elsewhere in the world i.e. manufacturers in the US, Europe and elsewhere are refraining from raising prices for fear of losing market share.

There may also yet be further waves of deflation still to come from China. One area of risk is industries with serious spare capacity problems. These industries include steel, cement, aluminium and glass, in all of which capacity utilization is running at a low rate of around 70 percent, and also coal.

Another area of risk concerns commodity prices. China has become the major market for many commodities over recent years. During 2002-12 China was responsible for over 85 percent of the growth in world demand for coal, and for almost half of additional demand for oil. China has also become a key market for copper and iron ore products.

Once again, the slowdown in Chinese growth is already putting downward pressure on some commodity prices. Perhaps most strikingly, iron ore prices are down around 30 percent from last August, but copper and coal prices – also linked to China – are also lower.

Given China’s massive importance in commodity markets, commodity prices could prove very sensitive to both expectations of future Chinese economic growth and short-term cyclical developments in China. So tighter credit in China could yet depress prices further, especially if the authorities miscalculate and this leads to a severe near-term economic downturn.

A sharp fall in prices of key commodities would be bad news for commodity producing countries that have become very dependent on China such as Brazil and Australia, but for the major advanced economies it is arguable that the effects could be benign – boosting real incomes, cutting production costs and perhaps even helping to keep monetary policy accommodative for longer.

The writer is senior economist at Oxford Economics.

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China’s producer prices have fallen by a cumulative 6 percent since February 2012.

Senior economist at Oxford Economics

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