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June 3, 2011

The "China Inflation" stories in the news rarely mention the producers' pricing index - obscuring, I think, a major part of the picture. In a manufacturing-centric economy like China’s, PPI is a much more informative number than, say, the UK, which is a more tertiary-based economy. The items in the PPI basket provide insight into the causes of the causes of consumer inflation, and will provide a clue as to where CPI - and, the major item its driving, wages - will be heading.

PPI is estimated at around 7% for May 2011, which is about 1.5% greater than CPI. The volatility in commodity prices over the last couple of years has subjected PPI to greater swings.

China Inflation May 2011

China's National Bureau of Statistics (NBS) uses three PPI baskets: agriculture, raw materials and manufacturing. I want to take look at manufacturing basket as its trends are closer to CPI in terms of time lag than raw materials or agriculture. The manufacturers' basket is made up of the following items:

Anthracite Coal
Bituminous Coal
Natural Crude Oil
Gasoline
Diesel Oil
Rolled Steel
Iron
Nonferrous Metals
Chemical Products
Cements

There are actually about 40 items in the basket, collected from 20 of the largest enterprises in each province. While it may be the case that the 20 largest companies enjoy discounts resulting from their scale that smaller companies do not, I suspect that costs are slightly overstated to lower tax liabilities.

The chart shows some of the PPI basket (there are about): Anthracite coal (used in heating), coking coal (a bituminous coal used in steel), general coal (a soft bituminous coal used in power plants), and flat steel (used for automotive body panels, domestic white goods, cans, and other products).

Pricing to Key Local Manufacturers in China

Source: NBS / GCiS

Some of this inflation is being directly passed onto customers - steel price increases have, for instance, contributed to an increase in the cost of cars ?while some of it is indirectly. Electricity pricing has remained fixed by the China Electricity Council, the idea being that CPI is held back by pricing controls. This has resulted in losses for the ďBig Five?power plant holding companies and for the State Grid, which are paying around 10% more than they were this time last year. According to this article in Reuters, power companies may be cutting electricity production as it isnít economically feasible. The result, energy hungry industries such as lead smelters are also forced to cut production ?meaning there will be an inflationary bump felt in China ?and abroad, where inflation in industries that China leads globally, such as electronics, will be exported.

 

About GCiS China Strategic Research

GCiS (www.GCiS.com.cn) is a China-based market research and advisory firm focused on business to business markets. Since 1997, GCiS has been working with leading multinationals in sectors ranging from technology to industrial markets, medical, chemicals, resources, building and constructions and a few others.

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