was already below market expectations, indicating that the market might have taken an overly optimistic view of China’s recovery.
Somewhat alarmingly, the sectors benefiting from the global disruption of supply chains might witness a significant slowdown when the pandemic is under control. For example, China’s share of global exports has climbed in recent months as many countries were unable to produce at full capacity during lockdowns.
As China has effectively contained the virus, Chinese manufacturers have been able to gain market share at this time, but this short-term gain is not sustainable.
The soft inflation figures indicate that underlying demand is not on a solid footing yet. From this perspective, the central bank should think twice before engaging in an outright tightening cycle. It seems ridiculous to raise interest rates against a softening of underlying demand.
From a global perspective, it is not in China’s interest to aggressively tighten its monetary policy, either. The US Federal Reserve has clearly signalled that interest rates will remain low for a considerable period. In addition, the Biden administration is likely to launch a huge fiscal stimulus package to support households hard hit by the pandemic.
However, too rapid currency appreciation will have significant side-effects, including erosion of export competitiveness and asset price inflation, which the PBOC will take into consideration as well.
Beijing should carefully calibrate policy normalisation; a tapering rather than a sudden halt would be more feasible, given the still-elevated post-Covid-19 uncertainties.
Unfortunately, the debt ratio jumped again this year as the policy was eased aggressively to soften the blows to the economy from the coronavirus. As the economy is largely back on track, the Chinese authorities may again see the necessity of conducting a new round of deleveraging, which is critical for financial stability.
In fact, a more effective way to contain the debt ratio is through quantitative measures, by controlling the money supply. Pricing instruments, such as an interest rate rise, are unlikely to have an immediate impact on controlling the money supply, if the risk appetite across the economy remains strong.
In addition, a high interest rate could crowd out credit demand from the private sector, which is clearly not the central bank’s intended result.
Thus, it appears that a rate rise is not feasible over the coming year, given the economic and market dynamics. China needs to calibrate its approach when designing policy in the coming year. While policy normalisation is clearly on the table, the PBOC is likely to prefer a gradual process.
Hao Zhou is senior emerging markets economist at Commerzbank