November 30, 2005

COMBINING BAD DEFLATION WITH GOOD:

China flirts with deflation as economy cools (William Pesek Jr., 11/30/05, Bloomberg News)

The risk is that China may be flirting with the opposite of overheating: deflation.

Sound like a reach? Not to economists like Andy Xie of Morgan Stanley. He's eyeing a scenario in which Asia's No. 2 economy experiences falling prices as soon as next year. The reason: overcapacity. China is still producing too much cement, aluminum, textiles and other goods. It's also constructing too many factories, buildings and resorts.

Officials in Beijing have used administrative measures to reduce overinvestment. Doing it slowly to achieve a soft landing means capacity growth remains high, causing an oversupply even when China's annual growth of more than 9 percent slows.

Cutting interest rates may even worsen deflationary pressure by encouraging capacity growth regardless of corporate profitability. As Hong Kong-based Xie explained, "plentiful liquidity keeps interest rates low and, hence, sustains the ongoing investment projects and funds new investments in bottleneck areas." [...]

China needs to get consumers to spend more. To do that, Xie argued the government should privatize state-owned assets, shift fiscal expenditures away from investment and modernize pension, health care and education systems.

So all they have to do is stop being the PRC?

Posted by Orrin Judd at November 30, 2005 11:55 AM
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