China’s economic struggles are becoming more pronounced as the country faces deflationary pressures, which have led to weaker-than-expected consumer price growth.
In August 2024, China’s consumer price index (CPI) rose by only 0.6% year-on-year, below the forecasted 0.7% forecast in a Reuters poll of economists, sparking concerns about the nation’s ability to counter falling prices and weak demand across key sectors.
As the second-largest economy in the world, China’s battle against deflation is drawing attention, especially as industrial prices also continue to decline, threatening growth targets and corporate profitability.
Key Factors Behind the CPI Increase
The modest rise in CPI in August was primarily driven by food price increases. Vegetable prices surged by 21.8%, while pork prices—a staple in Chinese diets—rose by 16.1%. These price hikes were largely due to adverse weather conditions, including high temperatures and heavy rainfall, which disrupted food supplies.
Despite these increases, core inflation (which excludes food and energy) rose only 0.3%, marking the weakest performance since March 2021. The sluggish core inflation underscores the lack of domestic demand, a lingering problem since the COVID-19 pandemic.
In sectors outside food, there were significant declines. The prices of transportation, home goods, and rents fell, contributing to the lower-than-expected CPI. The decline in transportation and home goods prices reflects a broader weakness in consumer confidence and spending. Despite efforts to stimulate the economy, such as cash-for-clunkers programs and interest rate cuts, these initiatives have had limited success in reversing the downward trend in prices.
The Impact of Deflationary Pressures
While consumer prices saw modest gains, producer prices painted a bleaker picture. The producer price index (PPI), which measures prices at the factory gate, fell by 1.8% year-on-year, marking a steeper decline than the 1.4% drop economists had predicted. This drop in PPI, particularly in sectors like steel, agriculture, and food processing, has fueled fears that deflation is taking hold in the broader economy.
China’s ongoing deflationary trend has severe implications for both businesses and consumers. Falling producer prices suggest that manufacturers are struggling to maintain profitability, which could lead to wage cuts, reduced investments, and a slowdown in hiring. Such outcomes would, in turn, lower household income and spending, exacerbating the economic downturn. The deflationary cycle also poses risks for China’s GDP growth, which has a target of around 5% for 2024. If deflation continues, it could severely undermine this goal.
Weak Demand and Domestic Challenges
One of the primary drivers of China’s deflationary challenges is weak domestic demand, a problem that has been exacerbated by the country’s property market crisis.
The housing sector, a major contributor to China’s economy, is now in its third year of decline, leading to depressed consumer sentiment and reduced spending.
Haibin Zhu, chief China economist at JPMorgan told CNBC that the “housing market crash is still not over yet,” stating that stabilize until 2025 at the earliest.
Additionally, intense price competition in sectors such as electric vehicles and solar energy has further contributed to the downward pressure on prices, forcing businesses to slash prices to attract buyers.
Retail sales data have also pointed to sluggish demand. In July 2024, retail sales grew by only 2.7% year-on-year, reflecting the broader challenges in stimulating consumer spending. The weak demand for goods, coupled with declining investment in key industries, has led to concerns that China may face a prolonged period of deflation.
Calls for Stronger Policy Measures
Economists and policymakers are calling for more aggressive interventions to combat deflation. Former central bank governor Yi Gang has emphasized the need for proactive fiscal policies and more accommodative monetary measures to boost domestic demand. He warned that if deflationary forces are not addressed, they could become entrenched, making it increasingly difficult for the economy to recover.
Many analysts believe that the measures taken so far, such as rate cuts and the reduction of the reserve requirement ratio for banks, have been insufficient. There are growing calls for additional stimulus, including further interest rate cuts, infrastructure investments, and policies aimed at boosting household consumption.
One major challenge facing policymakers is the growing gap between the effectiveness of monetary stimulus and the reluctance of consumers to spend. Weak consumer confidence and ongoing concerns about the future of the property market have led many households to save rather than spend, despite lower borrowing costs. To counteract this, some experts have suggested that China may need to implement more direct stimulus measures, such as subsidies or tax cuts, to encourage spending.
Conclusion
China’s August 2024 CPI data reflects a troubling economic landscape where weak consumer demand, falling producer prices, and deflationary pressures are converging. The modest rise in consumer prices, largely driven by food costs, is overshadowed by deeper structural issues such as the decline in transportation and home goods prices, as well as a faltering property market.
With deflation risks becoming more pronounced, policymakers face mounting pressure to implement more robust fiscal and monetary policies to prevent a downward economic spiral. Without stronger interventions, China’s chances of meeting its growth target and averting long-term economic stagnation remain at risk.