19-JUN-08: Chinese authorities decide to raise fuel and energy prices in a surprise move on Thursday night

The National Development and Reform Commission (NDRC) announced on Thursday night its decision that prices for fuel would rise by  17 and 18 per cent, respectively, for gas and diesel. The rise took effect as of Friday, 20 June 2008 and was widely unexpected at this point in time with the prospect of “shaking up markets“. Additional to this immediate hike of fuel prices, the NDRC also announced that electricity prices would be raised as of 1 July 2008.

The main explanation for the move was given as facing the problem of the spread between production cost for refineries and market prices, which was ever increasing with rising oil prices: It was reported that refineries lost up to USD 435 per tonne  of fuel, making the situation an unsustainable one. Certainly, the hike in energy prices is right as it brings the domestic prices closer to international market prices and thus enables the built-in stabilizer of lower demand through rising prices to work. It inevitably, however, will make it harder for the central bank and the other authorities to rein inflation growth in the short-run. And indeed, PBC Governor Zhou is quoted that the fuel rise “could require stronger monetary policy measures to contain inflation” (20 June 2008).

Asia Times Online refers to Frank Gong of JP Morgan with an estimate of the influence on  the inflation rate: “A 10% increase in the diesel price should raise China’s headline consumer price index (CPI) by about 0.4 percentage points, while the electricity price hike is expected to influence the CPI by around 0.3-0.5 percentage points.” Don’t expect anymore the June 2008 inflation rate to continue the decreasing path of May.

Price controls in China: Are they truly “temporary”?

On 2 March this blog tried to find an answer to the question about the likely duration of the “temporary” price controls imposed by the National Development and Reform Commission in January. It was not very clear then, and it still far from that.

Amid a very quiet time since then in terms of news on the price controls, one item stands out, headlining “Top China dairy producers get approval for price hikes” on 28 March. This was the first time that such approval was made since January and no other approvals have been reported since. This is worrying for two reasons: i) Given the current state of food prices in the world, producers of other product groups certainly need more flexibility in setting their prices; and ii) It was hoped that price controls named “temporary” would be abolished after some time. Instead, simple approvals of price hikes as reported on 28 March indicate that prices would still be not liberalized, but simply fixed at a higher level.

This puts into perspective the remarks given by Wen Guifang, member of the China Price Association in the interview with the Economic Observer Online, an independent Chinese weekly newspaper distributed in major cities throughout China, on 18 February: “I believe the price-intervention measure will be in place for about three to four months, or at the most, six months. Anything longer than that could spell trouble, but I doubt that would happen.” It is time to show what “temporary” means in the context of price controls in China.

Temporary price controls in China: How long to stay?

One may recall the announcement of the National Development and Reform Commission on 31 January that the temporary price control measures announced on 15 January had been implemented in all 31 provinces and municipalities of mainland China. After more than a month now, it’s time to ask what “temporary controls” exactly means?

Wen Guifang, member of the China Price Association said in an interview with the Economic Observer Online, an independent Chinese weekly newspaper distributed in major cities throughout China, on 18 February: The “strategy [of price controls] is only a temporary and emergency measure to buy time for the government to consider other options”, stressing again the temporary character. A similar message came from a representative of the NDRC in the same interview: “The measure is a temporary and auxiliary policy”. Getting more concrete, Wen Guifang ended the interview with stating that “I believe the price-intervention measure will be in place for about three to four months, or at the most, six months. Anything longer than that could spell trouble, but I doubt that would happen.”

Meanwhile economists widely agree that price controls are indeed a dangerous means to control inflation, as they lead to shortages, lower levels of production and ultimately ever growing inflation pressure. It is at this background that the tight measures on price controls adopted in January need to stay temporary. If they do stay for a short time only, they could serve as a way to lower inflation expectations, while the negative effects of shortages would not develop fully.

Price controls in China: A means to lower inflation expectations?

Andy Rothman of CLSA, a company providing equity brokerage, investment banking and asset management services, argued that the effects of the announcements of price controls by the Chinese authorities in January had been overestimated in recent assessments. CLSA derives this judgement from anecdotic evidence: The firm surveyed seven of 12 companies the government had reportedly said would be subject to possible restrictions. They found that none had received specific instructions. Mr. Rothman concludes that “what they (the Chinese authorities) are doing is what governments always do — try and talk down inflation expectations”.

This is an interesting thought. In fact, introducing and announcing price controls – controversial as they are – may give people the comforting feeling of authorities being aware and reacting to inflation threats and hence lowering overall inflation expectations in the economy. The effect may be achieved without actual and strict implementation of the controls. It remains open, however, whether this benefit of price controls justifies the use of the planned economy style prescription of a non-central bank policy instrument at all, particularly given the high risks involved.

31-JAN-2008: National Development and Reform Commission (NDRC) confirms temporary price control measures implemented in all provinces of China

The National Development and Reform Commission confirmed on 31 January that the temporary price control measures announced on 15 January had been implemented in all 31 provinces and municipalities of mainland China. This was achieved by 26 January 2008, which to proof the NDRC published the details of each province, including the date of imposition as well as the number and type of products and enterprises affected. The hardheadedness of the NDRC in following up the implementation of it’s circular of 15 January with the publication of progress reports shows the seriousness of the Chinese authorities in fighting inflation through price controls and hence once more confirms the importance of price controls as a non-central bank policy instrument within the monetary policy set-up of China.

15-JAN-2008: National Development and Reform Commission (NDRC) strengthens price controls in China

Recent developments: On 9 January 2008 at a State Council executive meeting presided over by Premier Wen Jiabao, it was decided to take further measures (of price controls) to stabilize market prices in line with the Price Law of the PRC, particularly on the local authorities level (People Daily, 10-Jan-08). These measures have to be seen as an employment of the non-central bank policy instrument of price controls to directly influence the inflation rate. China Daily reports on 11 January 2008 “such a national effort to contain price hikes is well expected since the central authorities made it a clear-cut priority at the end of last year to prevent current price hikes from evolving into overall inflation.” Based on these policy guidelines of the State Council the NDRC published a circular to price regulatory departments at all levels on 15 January 2008 asking for the immediate implementation of controls on prices on products such as grain, food made of grain, edible oil, meat, milk, eggs and liquefied petroleum gas. According to the NDRC, by 25 January 2008 of the 27 provinces (22) and autonomous regions (5) 24 had set up the requested lists on interim price intervention. Furthermore, it is claimed that the set-up of the lists is important to raise the awareness of the issue on the highest local authorities’ levels and to put in place effective monitoring mechanisms to detect excessive rising of prises.

Background: Price controls are one of the non-central bank policy instruments used in China to influence the most prominent final target of monetary policy, namely price stability. In the analysis of the instruments of monetary policy in China (Geiger, 2006: 19-22) it was concluded that it is evident that the authorities use their discretion in setting price controls more actively in times of inflationary or deflationary pressure. And this is exactly what can be observed at the moment through announcements of the NDRC and its Department of Price, in a move on 15 January 2008 that Forbes commented on that “price controls again [are] in vogue among China’s planners“.