Whether data due tomorrow show China's economy grew by 10.1 per cent or 10.4 per cent year-on-year in the second quarter is immaterial. Economic growth is slowing and the only question is the extent to which official numbers acknowledge this. More important is the direction of monetary policy and what it means for the slew of bets placed on the renminbi and other Chinese instruments.
Like its neighbours, China is walking a tightrope between slowing growth and surging inflation. Lobbyists in both camps are waging battle: see the central bank governor's comments about “stronger” anti-inflation policies while exporters grumble over factory closures. Those clamouring for growth would appear to have had the upper hand. There have been no interest rate rises this year, and currency appreciation ceased from the beginning of April to mid-May. But policymakers have also been tackling inflation, with some success. The consumer price index rose 7.7 per cent in the year to May, down a full percentage point from the February peak. More importantly in the Chinese context, money supply growth is also slowing, albeit marginally.
These victories come at a cost. Banks have assumed much of the burden of tightening. Higher reserve requirements and loan quotas constrain their ability to lend at a time when savers are piling into deposits. This, combined with a sense that inflation is receding, appears to be behind a change in tack. Local newspapers report plans to increase tax rebates on textiles – rebates which were reduced in part to skew exports higher up the value chain. The post-disaster reconstruction will deliver a fillip and other stimuli, possibly including a relaxation on curbs in the real estate sector, may follow. A more expansionary approach would limit Beijing's appetite for continued currency appreciation, which has attracted heavy speculative inflows. Expecting a repeat of the 7 per cent first half gains against the dollar looks bold.
