Monday, November 10, 2014

Is China’s at Risk for Deflation?

For the past two decades China has been growing at a remarkable pace year after year shocking economists and rewriting economic theory. It appears that the Bull Run has just about come to an end. According to the National Bureau of Statistics in Beijing the factory-gate prices fell for the 32nd month in October. Likewise, consumer prices were also stagnant. Some economists are arguing low inflation, low capacity engagement, and high inventories may lead to deflation. 

The Chinese government is debating infusing some of its own capital into the economy in much the same way as the U.S. and Europe. The methodology may be somewhat unique as expanding production without significant household consumption or willing international buyers can be difficult. China’s economy could be experiencing the first signs of “burn out” as consumers across Europe tighten their belts.

As prices and products become cheaper there is some risk of deflation. Deflation is seen as a very destructive force that impacts the ability of the economy to maintain upward trajectory. Such things as debt become extremely difficult to service as money becomes worth more and requires much more money to pay back loans. 

Inflation can be caused when the supply of goods goes up but the amount of money does not go up to match it. This means that money is in demand and can purchase more products. This normally would be a good thing but it creates risks for investors who would rather sit on cash then invest in a deflating market, it encourages consumers to wait until products are cheaper, and it makes hording of money more likely-economic activity declines.

At present it doesn’t appear that China is concerned about deflation based upon its relatively unchanged economic policy. That risk does still loom and even though it is not common in history it has been known to cause economic hardship and recessions in those countries that experience it. It is always possible China could be in for slower growth and a bumpy ride over the next few years.  The Bull Run may have just hit a wall.

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