With China hiking interest rates by 25 basis points on Wednesday, reportedly to counter faster inflation, now is probably a very good time to bring up the issue of the country’s GDP deflator calculation.
Simon Hunt of Simon Hunt Strategic Services, a veteran copper market analyst with great connections in China, believes the deflator may be a much bigger concern for Chinese authorities than the CPI inflation figure.
The difference between the two is that the deflator is not based on a fixed basket of goods. Rather it adapts to reflect the current cost of goods produced in the country and to the exchange rate. Consequently, it’s considered a much broader measure of inflation.
The tricky thing about the deflator in China, though, is that there’s a particularly large discrepancy between it and CPI — a fact which has made many analysts suspect it could be being overstated. Potentially on purpose, so as to cover-up what is really an overheating level of growth in China.
Diana Choyleva of Lombard Street Research noted the view earlier this year in the WSJ:
In the last three months of 2010, the deflator made inflation out to be 7.3%, compared with 4.7% using the CPI. Yes, GDP statistics aren’t accurate in China either: Real GDP growth has shown unnatural stability over the past few years. But if the 7.3% inflation the GDP deflator calculates is an overestimation, this has to mean that real GDP growth is higher than the 9.8% Beijing officially clocked for the last quarter—which is dangerously high, strengthening the fear of overheating China bears have been raising of late.
She is one of many.
Hunt’s view, however, is different.
He believes the deflator could be being underestimated.
As he wrote on Mineweb this week (our emphasis):
But, there is a deeper theme unfolding. This leadership transition is murkier than most, seemingly with policy disagreements. There is a real focus on inflation in its broadest context, not just CPI inflation, but the GDP deflator. There is a realisation that interest rates on bank deposits will have to be positive in real terms before the economy can grow on a sustainable basis. Even CPI inflation is unlikely to fall below the important 4% threshold by year end. Some food prices might come down but inflation in the services’ sector will be rising and this sector accounts for about 50% of the CPI basket. And our guess is that the GDP deflator which probably averaged over 10% last year is now running at around 11%.
The natural implication of that, of course, is that real Chinese GDP could be much lower than officially stated. And that inflation, as a result, is indeed a much greater concern for authorities than is currently being implied.
To back his point Hunt draws attention to a recent comment from Premier Wen Jiabao. Hong Kong Television reported him telling a group of overseas Chinese in London last week:
“I believe it will be difficult to keep inflation at around 4% this year, but with hard work I believe it is possible to keep the level under 5%…….Taken together, inflation and corruption can impact a nation’s political stability. Therefore, we must stabilise prices at the forefront.”
As Hunt observes, the emphasis on “hard work” and “political stability” is notable.
Related links:
Chinese GDP a case of ‘fake it ‘til you make it’ - The Telegraph
China’s fake recovery - FT Alphaville
China’s (un)real GDP – FT Alphaville