- FTCR measures of household costs of living show prices are growing at relatively low rates. Our measure of expectations for future inflation also remain subdued.
- A slowing housing market and a tougher financial regulatory stance in 2018 will help keep a lid on inflation.
- The government’s annual consumer price index (CPI) target will remain at around 3 per cent in 2018. While prices of services such as healthcare provide a floor, we do not think the official target will be breached.
Inflation is not set to come roaring back to China. Our monthly gauge of household costs of living suggests price pressures remain well contained, while inflation expectations are similarly anchored.
Higher prices for services such as healthcare will add pressure to the headline CPI. However, there is still no sign of any spillover from rising producer prices and we do not think consumer inflation will rise enough next year to breach the government’s 3 per cent ceiling for any sustained period.
The FTCR China Cost of Living Index has crept up since hitting a series low during the turmoil of late 2015 and early 2016 (see chart). In response to that shock, the government flooded the economy with credit, much of which flowed into regional housing markets. However, our index remains well below 2011-14 levels, reflecting the economy’s slowdown and excess capacity in consumer sectors.
Although the government has been shutting overcapacity, this has been in upstream sectors such as coal. The manufacturing producer price index (PPI) has begun to rise but competition is keeping manufacturers from passing costs on to consumers (see chart). Base effects stemming from the surge in PPI at the end of 2016 will also increasingly weigh on monthly readings starting from November.
The government’s 3 per cent target for CPI has been in place since 2015 and we expect it to remain for 2018, although the actual index has not hit this level since November 2013. The government will also continue trying to rein in financial markets next year, including checking the flow of credit to households, which has done so much to push up property prices. A tightening policy bias will help keep inflation in check.
Our measure of consumer cost-of-living expectations tells a similar tale to that of our gauge of current prices — it hit bottom in March 2015 and has since crept higher, but remains well below levels seen in the years following the 2008 stimulus response to the global financial crisis. A quarterly People’s Bank of China household survey also suggests consumer inflation expectations remain subdued (see chart).
But there are risks to this outlook. Prices of food (pork in particular) are a swing factor. Prices have been low but so has the level of hog and sow supply, suggesting constraints which could push up prices. The government was quick to respond in early 2016 when food prices rose on the back of surging pork prices, tapping its strategic reserve. Food prices are expected to increase anyway in the run-up to the lunar new year, which falls in mid-February 2018.
Rising services prices are a significant driver of CPI. We estimate that medical services prices alone account for around 11 per cent of the non-food component of the basket used to measure consumer prices. They rose 7.2 per cent year on year in October versus the 1.9 per cent increase in headline CPI and an increase of just 1.1 per cent in consumer goods prices (see chart).
The government has been coaxing hospitals to derive more revenues from services and fewer from jacked-up medicine prices. For example, an overhaul this year of consultation fees at Beijing public hospitals has reportedly resulted in appendectomy costs rising to Rmb560 ($85) from Rmb234 and acupuncture treatment increasing to Rmb26 from Rmb4.
A severely underfunded healthcare system will force the government to continue raising prices of these services and consumers will have to foot at least some of the bill.
|FT Confidential Research is an independent research service from the Financial Times, providing in-depth analysis of and statistical insight into China and Southeast Asia. Our team of researchers in these key markets combine findings from our proprietary surveys with on-the-ground research to provide predictive analysis for investors.|