China Tightens Monetary Policy To Prevent Inflation

While critics have accused China of short-sightedness in capping credit growth and imposing higher interest rates, monetary restraint was warranted as soaring lending led to rampant real estate …

While critics have accused China of short-sightedness in capping credit growth and imposing higher interest rates, monetary restraint was warranted as soaring lending led to rampant real estate speculation and sky-rocketing sales, raising the specter of inflation. In contrast to China’s proactive approach, the US has continued its policies of securities purchases and suppressed interest rates, seemingly oblivious to inflationary threats. See the following article from Money Morning for more on this.

Many investors are focusing on China’s recent moves to curtail lending and cool its economic growth, but in doing so they’re forgetting that the Chinese economy has withstood the financial crisis better than any other economy in the world. And it remains investors’ best bet.

“When the financial crisis forced the neoliberal economic system into a dead end, the shortcomings of the capitalist system were exposed for all to see,” read a Jan. 5 front page editorial in the People’s Daily, the central government’s official mouthpiece. “But a China that was pushed to a crossroads proved its ‘national capabilities’ in taking on a crisis by answering with the advantage of the socialist system with Chinese characteristics.”

That statement is cavalier almost to the point of tastelessness but Beijing has earned those bragging rights. China’s economy expanded by 10.7% year-over-year in the fourth quarter as most of the world continued to struggle with the aftermath of 2008’s financial crisis. For the full year, the nation’s gross domestic product (GDP) grew 8.7%.

That easily tops the government’s 8% target and dwarfs the economic growth posted by other economies around the world.

And while in the past exports have been the lifeblood of the Chinese economy, virtually all of last year’s growth was homegrown – the result of a $586 billion (2 trillion yuan) stimulus package that spurred lending and drove massive investments in infrastructure.

The National Bureau of Statistics said yesterday (Thursday) that industrial production in December increased by 18.5% and retail sales rose 17.5%.

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Some analysts now are worried about possible asset bubbles developing from excess, but so are Chinese policymakers, which is why they’re taking steps to curb excessive lending.

The People’s Bank of China (BOC) on Jan. 7 raised the interest rate on its three-month bills for the first time since Aug. 13. And last week, the government raised the capital reserve requirement for banks for the first time since June 2008.

This week markets have plunged since Liu Mingkang, chairman of the China Banking Regulatory Commission, on Wednesday announced that overall credit growth in China would be capped at $1.1 trillion (7.5 trillion yuan) for 2010.

This was after Chinese banks lent out $161.1 billion (1.1 trillion yuan) in the first two weeks of January.

Still, this form of monetary tightening was to be expected. China’s banks lent out about $1.08 trillion (7.37 trillion yuan) in just the first half of last year, nearly double the total loans extended throughout all of 2008.

One of the biggest effects of all this lending has been a huge speculative surge in property sales and home prices. Property sales in 2009 soared an astonishing 75.5% from 2008 to $644 billion (4.4 trillion yuan). But that’s why China is acting now to cool the market. And according to Money Morning Chief Investment Strategist Keith Fitz-Gerald, that’s exactly what it should be doing.

“If anything, the moves that China is making amid so much criticism are actually going to solidify the long-term future of the world’s No. 3 economy,” Fitz-Gerald said. “The bottom line is that China’s leaders are focusing on financial-crisis solutions, while their U.S. counterparts are still trying to figure out what kind of financial train wreck hit us.”

Indeed, Beijing is looking to prevent a future financial catastrophe, not recover from the last one. That’s why China is focused on taking the air out of its booming real estate market.

Inflation is becoming a concern, as well. Producer prices rose 1.7% in December after declining for the previous 12 months and consumer prices surged 1.9% from a year earlier. But by tightening monetary policy now, Beijing is heading a pricing problem off at the pass.

U.S. Federal Reserve Chairman Ben S. Bernanke, on the other hand, is none too concerned with inflationary pressures building in the U.S. economy. The Fed’s kept interest rates at a record low range of 0-0.25% since December 2008 and even stepped up its purchases of U.S. Treasuries and mortgage-backed securities. And the minutes from the Federal Open Market Committee’s Dec. 16 meeting showed no definitive move away from such accommodative policy.

The Consumer Price Index (CPI) rose 2.7% last month from a year earlier. That’s the largest gain since 2007. Producer prices, meanwhile, rose for the third straight month in December, increasing by 0.2 % and recording their largest year-over-year gain since October 2008. And the U.S. economy is growing nearly as fast as China’s.

“The experts who are right now trying to write off China are making a very basic mistake,” said Fitz-Gerald. “They are confusing short-term corrections with a long-term change in direction. And the two scenarios are very different. China’s growth is just beginning. China is a land of raw opportunity. Over the long haul, in fact, it’s the greatest wealth-creating opportunity that we’ll see in our lifetimes.”

“If anything, I think the typical individual investor should double their exposure to China while they still have a chance,” he added. “Do you really want to find yourself standing alone on the dock, left behind to lament your lost opportunity as you watch this great profit opportunity sail away? I don’t.”

This article has been republished from Money Morning. You can also view this article at
Money Morning, an investment news and analysis site.


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