Sun Kai's  Instablog

As I've mentioned before, the purpose of this blog is to call attention to stories and opinion in the East which are overlooked or ignored by journalists and the public in the West.  While there are a great number of Chinese citizens currently translating, filtering, and digesting the products of our popular culture and 24-hour news cycle, there is a relative shortage in source (and perhaps attention span) in the other direction.  While my regular job prevents me from posting as often as I would perhaps like, I still try to deliver a post or two on what current topic of the week/month to hopefully broaden the discussion.  It's a blessing therefore when my work dovetails with this blog and I can kill two birds with one stone (一举两得). 

 

Today's topic is a bit more legal than usual but I have noticed the proliferation of a thread of stories in recent weeks all with the same topic: Chinese planned increase of investment overseas and, in particular, the US.  These stories follow on the heels of Hu Jintao's visit to Washington are are all well written but all have, whether because of oversight or the editors red pen, missed the true point: China's steady march towards establishing the RMB as an international reserve currency.

 

The WSJ is a case in point:

 

http://online.wsj.com/article/SB10001424052748704062604576105952027426880.html</a>

 

Hu Jintao delivers some trade deals and then we dash off a quick story on China wanting to invest abroad? This is boilerplate journalism.  If we dig a little deeper we can quickly discover not only that the Chinese delegation made a few pro-trade statements at Davos or to AmCham, but that the Chinese government has been working steadily over the last few years to launch a series of laws aimed at increasing international RMB convertibility, including one just this month which specifically allows for the type of overseas investment contemplated by this story.  

 

That law, passed in early January by the People's Bank,  is located here:

 

“Measures for the Administration of Pilot Overseas Direct Investment RMB Settlement”

 

Under the law, a domestic institution may transfer RMB funds abroad for certain overseas direct investment activities where that RMB is to be used "for establishing, acquiring, or purchasing stock to gain management, control, or ownership rights of all or part of a foreign enterprise or project."  Why is this important?  Because this law is but one in a string of promulgations from the PBC and SAFE aimed at loosing China's ludicrously stringent capital controls and allowing the RMB to take its place as one of the world's major currencies.  It mean, in a nutshell, that Chinese companies seeking to invest abroad now have a way to transfer their RMB reserves to gain controlling stakes in foreign companies without the need to undergo the foreign exchange hassle that once existed.  The only drawback is that right now there are only a few international banks able to conduct RMB based business.  I believe only the RMB accounts recently made available by the People's Bank of China's New York Chinatown branch allow for this but  if the words of People's Bank officials in New York regarding their desire to be the "renminbi clearing center in America" are to be believed then it seems only a matter of time before similar banks are established in other global trade centers.

 

The point of all this is simple.  We now have two large themes in the Western media. One, is China's currency, its true value, and whether China is taking steps to make it a new reserve currency.  Two, is this new story, that China is seeking to increase outbound investment.   These stories are connected and the dots which connect them are in the publicly available law of the PRC which show a now year long trend of increasing the convertibility of the RMB and expanding its global usage.  Therefore its incorrect to describe this story as "China wants to increase investments abroad" a meme which we have known for quite some time (Africa?  Australia?).  The real story, perhaps boring in the details, is the slow and steady push by China Inc. to make the RMB a reserve currency and by extension, supplant the USD, of which this supposedly new found interest in overseas investment is just one more link in the chain.  

 

In China, the Consumer Price Index ("CPI") is becoming more and more of a joke.

On January 21st, the National Bureau of Statistics (NSB) released their national macroeconomic figures for 2009. While GDP had increased 8.7%, the CPI had decreased .7%.

 

This figure has absolutely nothing to do with the average person's personal experience.  So much so that many questions are being raised online.

 

Let's look a little closer at the goods in the CPI basket:

 

Of the eight basket categories, four rose and four fell.  Tobacco and Alcohol products rose 1.%, medical insurance and consumer goods rose 1.2%, food rose .7%, and [housewares and maintenance] rose .2%. On the other side of the ledger, Housing fell 3.6%, communications fell 2.4%, clothing fell 2.0%, and entertainment and educational cultural products and services fell .7%.  Compared with last November, November CPI turned from negative to positive, rising .6%. In December it rose 1.9%.  Factory goods fells 5.4% on the year but in December, this number also turned from negative to positive, rising 1.7%. Over the year, raw goods, fuel, and power purchases fell 7.9%; retail prices fell 1.2%.

 

(Source: NBS Figures)

 

Every grandmother going to the market to buy food knows that this ".7% rise in food price" is inconceivable. Whether we're talking about vegetables, meat, rice, or cooking oil, almost everything is at least 30% more expensive than last year.  Everyone who goes to a restaurant knows that prices there have also increased at least 30%. Maybe even higher than 50%.  In Beijing, at the smallest hole in the wall restaurant, it's almost impossible to find a stir-fry dish under 10 Yuan.  Most prices have already surpassed the 20, even 30, Yuan level.  A year ago it was the norm to pay 10-20 Yuan for a stir fry dish.  Gas prices are at a historical high, ask any driver.  They're 20% higher over the last year while electricity, gas, and water, are all increasing apace.

 

I don't know what type of goods are in the NBS CPI basket.  This might be a state secret.   Us little people aren't allowed to know.  But I know that it definitely is a bunch of things that us common folk can not possibly buy. Sometimes, I really envy our comrades at the NSB.  After all, they can always buy those goods whose prices are declining.  How lucky for them!  I think the NBS should launch a new service: they should buy goods for other people. They could even levy a bit of a service charge. That would definitely be a thriving business!.  In this period of rising prices, their ability to buy those goods whose prices are declining is really a market opportunity.  Our comrades at the National Bureau of Statistics are perfectly entitled to earn this bit of money.

 

If the CPI can not reflect the actual rise in consumer prices then I don't understand how this number can have any significance.

 

That said, I didn't come here today just to whine about the figure.  I came to discuss a problem.  In order to explain this problem I will, for the time being, agree that calculated number is an actual, realistic reflection of today's prices.  What I want to say is this: even if the calculated number is correct, then this CPI number still does not have that much significance.

 

Many economists and officials look at the CPI as being very important.  In their minds this number is inextricably linked with the idea of "inflation".  When economists are formulating their own theories and officials are setting policy CPI is the lead horse.  When CPI is high, say exceeding 3%, then they believe inflation is coming, and therefore act in a fluster to tighten credit.  When it hasn't exceeded 3%, then they believe there is no inflation, they even believe that it may signal deflation and so they adopt a somewhat relaxed monetary policy.  This is preposterous.

 

When we treat CPI as an inflation number, the outcome is that the theory does not hold up in the face of reality.  It fails to persuade.  In 2009, asset prices, particularly real estate, rose rapidly.  Looking at it from a national perspective, real estate prices rose 30%. In Beijing, Shanghai, Shenzhen, these first-tier cities, the average rise in housing prices was 50-80%.  In some areas they more than doubled.  Many experts could not explain this phenomenon, they even fabricated this great intelligible concept: that it arose "in expectation of inflation".  Now, I realize the CPI basket doesn't contain housing prices,  so that's why we could see the strange phenomenon.  Towards this kind of phenomenon, if we can not explain it then we just need to be a bit creative and say its "the expectation of inflation".  Actually, if we don't restrict ourself to this [fallible] "cpi = inflation" framework, then we can know, this is certainly not any kind of "expectation of inflation".  This is the reflection of actual inflation.  The sharp rise in housing prices clearly demonstrates that actual inflation has already come.

 

A lot of concepts we think of which are similar to this "CPI = Inflation" are actually quite wrong.  From the word inflation itself we can see, so called "exchange of currency" really just means "currency". [translators note: inflation [通货膨胀] = 通货 (currency, exchange of goods) +  膨胀 （to expand, inflate)].  Currency expansion has no other meaning; it simply means the money supply is increasing.  [...]. And the rise in the price of goods we're seeing, including such areas as daily consumption, housing, stock, raw materials, labor-- the increase in all these assets prices is just the result of an increasing amount of currency competing in the market to purchase these goods.

 

Inflation only has one source: you're printing too much money.  A lot of cloudy-headed experts say inflation is brought on by a rise in oil, or by a rise in food prices, labor or pork prices.  This is all bullshit.  Inflation is brought on because there's too much money.

 

In this era in which government credit is used to support currency creditworthiness, inflation is a common occurance. Because the cost of printing money is practically zero (really just a little bit of ink and the workers salary) money-printing organizations have enough incentives to continue to print money.  A lot of reasons are really quite pompous.  For instance, during the 2008 financial crisis, the government released large sums of money in the name of "rescuing the economy".  Most of the transactions between banks were handled using electronic transfer systems and so even the need for printing actual cash could be skipped over.  At present, monetary expansion even more embodies the scale of credit expansion.

 

Further, now we have the central bank injecting money into commercial banks and from commercial banks into the overall economy.  But in each link of this chain the flow of money is not very well distributed. Noted economist Zhou Qiren once made an analogy-- He said "money is like honey". What he meant was that money is like dripping honey, it slowly expands outwards. At first when you drip honey its real thick in the middle but over time that honey will spread out until the entire surface plane is even.  When money enters into the economy it is the same.  In a situation where the government directs currency, it will always start with those industries who are closest to the government and the banks.  That currency, through a series of transactions with the broader markets will eventually creep to every link in the general economy.

 

For those departments and industries who first received the money, let's say state-owned industries, they are still operating in a situation where the other industries have not seen any increase in money, and so prices are still in a pre-inflation period. Thus, those who get the money first become the ones who capture the opportunity and the first to be able to purchase underpriced merchandise.  This type of money first enters upstream industries like real estate, raw goods, oil, coal, and electricy. It raises the cost of products in these industries.  Afterwards, prices will gradually trickle down into consumer goods.

 

So, from this analogy we can see that even though many prices rose steadily in 2009, the price of consumer goods still didn't rise.  They even fell.  This is not the non-inflation that the experts are saying. This is merely the stage where inflation has yet to flow to the production stage.  Inflation still hasn't affected our ordinary salaries.  It still hasn't changed the small private business owner's profits.  It still hasn't influenced consumer goods.  When we see an increase in the price of consumer goods that's when we know that the expanding money supply has completed its circuit.  It's at this point that experts and bureaucrats start to howl "Inflation's here". But by then it's already so late what's the use?    By this point no policy can be used to control inflation.

 

Of course, the numbers released by the NBS will make some people doubt.  After all, the common folk have people already have experienced many rising prices.  Yet, the NBS says the CPI fell a bit.  It's natural that this will result in public complaint.

 

The last thing I want to say is this- let's look at inflation and not look at the CPI.  let's use the "magpie seeing the duke of Huan of Qi" story we are all familiar with to make an analogy. When CPI is negative or at a small number, it might be a "sickness of the skin" or a "sickness of the tissue" or a "sickness of the bone".  Where it actually is, we don't really know.  But when we see that even the CPI indicator has risen.  Then we will know.  This definately is a sickness of the vital organs.