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An ugly price equation for China



  A vegetable market in Nanning, China. Consumer prices rose 2.5% yoy in September, mainly due to higher food prices.

A vegetable market in Nanning, China. Consumer prices rose 2.5% yoy in September, mainly due to higher food prices.


Hu Yan / Zuma Press

Ordinary Chinese pay more for food and housing, but indebted industrial companies are starting to lower prices. If the Chinese central bank tries to keep the Chinese economy on a tight track and avoid grumpy consumers and large corporate defaults, this could become a serious problem.

Chinese citizens face renewed inflation: consumer prices rose 2.5% year-on-year in September, the highest rate since 2014, except for the holiday season around the New Lunar New Year. The main reasons for this were higher food prices due to bad weather and an outbreak of African swine fever.

The trend would be less worrying if Chinese manufacturers continued to make strong gains due to healthy demand. Not. Overall, producer prices rose 3.6% year-on-year, slower than the 4.1% increase in August. Much of last month's profit was driven by higher oil prices. The picture in each of the key sectors is more worrying. Iron and steel prices have been the slowest since mid-2016 as Chinese heavy industry rose from the years of deflation. Prices for non-ferrous metal producers even dropped to the year, the first absolute decline since July 2016.

Uneven price increases for heavy industry are worrisome because they are the most heavily burdened by Chinese corporate debt there – and infrastructure and real estate are. Slow or negative price gains make it more difficult for companies to repay debts: banks' real lending rates, adjusted for producer prices, were around 2% in the third quarter, twice as high as at the end of 2017. That is still much lower than the level of about 10% that prevailed at the end of 2015. But as producer price inflation continues to drift down, pressure on the Chinese central bank to further loosen monetary policy and boost commodity prices again.

However, that would be far more dangerous as consumer prices are bubbling and the Yuan is already flirting with the psychological key threshold of seven to the dollar. China's core consumer price inflation – excluding food and energy – is on a downward trend, and as oil prices weaken and China's food supply stabilizes soon, headline inflation is likely to be.

Nevertheless, accelerated consumer inflation and slower producer prices in China are paying attention. The latter usually means a weakening of growth and further easing. The former makes the easing riskier, especially with the yuan already in dangerous territory. If this divergence persists, China's well-lit lane may become darker towards a gentle landing.

Write to Nathaniel Taplin at nathaniel.taplin@wsj.com


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