Look within

JIN DING/CHINA DAILY

Recently, China has kept strong economic growth, especially with the increasing growth rate of exports and industrial added value, but this has also been accompanied by inflationary pressure. Therefore, some analysts believe that China should appropriately reduce its macro policies. But in fact, the main problem facing China's economy now is not overheating, but is the risk of weak domestic demand which may challenge the subsequent growth momentum.

If we look at the average seasonally adjusted quarter-on-quarter growth rate, it is clear that domestic demand in the first four months of 2021 was significantly weaker than the pre-pandemic norm. Although the current total retail sales and fixed asset investment growth rate is still high, the seasonally adjusted quarter-on-quarter growth rate and the actual measure, taking price factors into account, show that domestic demand is not only significantly weaker than external demand, but also weaker than the norm before the pandemic. In this context, it is necessary for China's macro-control policies to intensify.

The main contradiction China's economic policy faces in 2021 is not inflation. Specifically, the inflation pressure in 2021 is more on the production side than on the consumer side.

The market expects the producer price index will increase by 4-5 percent in 2021, while the consumer price index inflation rate will be significantly lower than 3 percent, as targeted in the Government Work Report. The year-on-year CPI and PPI inflation rates will peak by mid-2021 and fall by different degrees in the second half.

Since the inflationary pressure on production is related to rising commodity prices, commodity prices are crucial to inflation. According to the US Energy Information Administration, the global consumption and production of liquid fuels in the first quarter of 2021 were significantly lower than in 2019. But energy prices were higher. It means the supply shock has a certain impact on the price increases, as reflected in the Organization of the Petroleum Exporting Countries' policy of limiting production.

The global consumption of liquid fuels (including petroleum) continued to outpace global production between mid-2020 and the first quarter of 2021. This demand gap has led to an overall increase in energy prices that is expected to persist for some time before narrowing and essentially disappearing in the second half of the year. This also applies to other commodity prices, meaning that this round of rising production costs will be temporary.

Commodity prices are influenced by many factors, including supply and demand, financial market over-liquidity caused by loose global monetary policy and geopolitical factors. With the global liquidity easing reaching its peak going into the second half of the year, the increasing trend of commodity prices will be significantly weakened.

Economists are worrying about the inflation pressure in the United States and its influence. There is also the question of whether China's CPI inflation rate, which was 0.9 percent in April compared with the stronger-than-expected 4.2 percent in the US, will catch up with that in the US. There are at least two reasons why it won't.

First, compared with China, the transportation of the US has a higher growth rate and accounts for a larger proportion of economic growth. Because of the pandemic, the common denominator of the CPI increase structures in China and the US is that transportation has the highest increase rate. In April, the US saw a 14.9 percent increase in transportation prices. In terms of the Urban CPI, which covers 92 percent of the US population, as an approximation to the overall CPI, the transportation accounted for 15.2 percent, according to US Bureau of Labor statistics. As a result, transportation alone represented 2.26 percentage points of the 4.2 percentage point increase in the US CPI in April.

China's transportation (excluding communications) accounted for about 7 percent, and prices rose by about 5.8 percent, accounting for only 0.4 percent of China's CPI rise. So transportation explained 1.86 percentage-point split in inflation rate between China and the US. Moreover, the increase in transportation of the US may be temporary.

Second, compared with China, service prices contribute more to CPI inflation in the US, which may be related to the decline in the willingness (or participation rate) of the US labor force to work. The service prices of the US CPI, which excludes rental housing, rose 3.2 percent in April year-on-year. Combined with the estimated weight, this contributed 0.8 percentage points of the April US CPI gain.

In contrast, the service prices of China's CPI rose by only 0.7 percent in April, which is not exactly matched by that of the US(excluding housing rent), but it can also be seen that there is a significant difference in the price increase of services between China and the US. This explains the half a percentage point difference in inflation rate between the US and China.

The US policy of helping individuals is likely to end in September. That will push up the US labor force participation rate and hold down the prices of services. Because of differences in the way individuals are helped, inflationary pressures in China are less than in the US.

Considering the rise in international commodity prices which shows temporality and the structural factors that pork prices are significantly weakening, inflation is not the main pressure facing China's economy. At present, China's domestic demand is still weak. The possible adjustment and decline of external demand in the future, as well as the problems that may be caused by excessive reliance on external demand, require us to focus more on the repair of domestic demand.

Therefore, China's macroeconomic policy framework needs to be integrated with the new development paradigm, adhering to the strategy of expanding domestic demand, and making the economic recovery more stable.

The author is a research fellow of the Institute of World Economics and Politics at the Chinese Academy of Social Sciences and director of the Research Department of China Finance 40 Forum. The author contributed this article to China Watch, a think tank powered by China Daily. The views do not necessarily reflect those of China Daily.