Thursday, February 9, 2012

How China Manages Inflation

After China has experienced recent inflation in the past two months, they find themselves in an economically challenging situation. This Time article explains their conundrum.

A way to combat unwanted inflation in any economic system is by raising interest rates, something the Chinese government has been unwilling to do. This is for two big reasons: A) this would attract international money into the country, therefore strengthening the Chinese currency the Yuan. The government finds this undesirable, as demand for their exports is high while the global market is depressed, strengthening their currency would only make their exports less appealing. Or perhaps they resist strengthening the Yuan because of pride issues, something the Chinese undeniably suffer from. They conclude their currency is fine where it is, and inflation can be dealt with in other ways.

New government stimulus policies has lead to a growth in bank lending, which leads to reason B) why China can't hike up its interest rates. Increasing the interest rates would leave more debt in the hands of Chinese businesses and corporations, and all borrowers for that matter.

So the Chinese government is taking a different approach, most unconventional than usual methods of controlling inflation. The banks are to be given certain amounts of money they must store in the bank, hopefully limiting how much they can lend. But it gets more complicated. This method of withholding money from borrowers is due to fail. Therefore the Chinese are going all rogue-communist  on economic practices by controlling the price on staple Chinese foods. This, of course, calls for a delicate balance of supply and demand, or as Schuman calls it, "reserve ratio [increase] and price suppression". 

1 comment:

Smith said...

The Chinese are trying to control the money supply which is something the US government does on a daily basis through the same method (reserve requirements). Do still find this practice "due to fail"?