Why is price inflation raging in China, but not in the US?

Why is price inflation raging in China, but not in the US?  Both countries and their central banks showered banks with stimulus money.  The short answer to that question is because the Chinese state-owned banks kept lending to businesses and individuals while US commercial bankers have tightened lending.

The fractional-reserve lending process creates money.  Money creation adds to the money supply that comprises people’s checking accounts (M1).  People spend the money in their checking accounts to purchase goods.  More money chasing the same amount of goods leads to higher prices (all other things being equal).  To better understand how this process functions to create money click here: http://en.wikipedia.org/wiki/Fractional_reserve_banking .  Also, Murray Rothbard’s “The Mystery of Banking” is a bit longer, but it is so elegant an explanation of this process that affects us all.  http://mises.org/resources/614/Mystery-of-Banking-The

The US commercial bankers are not lending the over one trillion dollars in excess reserves that they received from the Federal Reserve.  Lending is the process in which the reserves are transformed into M1 money supply.  Individuals in the US are going to experience massive price inflation once the bankers expand lending.  These price increases will make the 1970’s seem like a sunny afternoon.

The Chinese government bankers do not face negative career sanctions if they drive their banks and country into the ground.  Only the biggest US banks are protected by the Federal Reserve.  All other bankers are tightening for their lives.  The biggest banks are not lending to shore up their pathetic balance sheets.

They Chinese government bankers are lending like crazy despite the obvious price increases in goods and real estate in China.  Their price increases are going to lead to strife in China.  There are millions of unmarried, unemployed Chinese males due to the government’s one child policy that are facing increased prices and poor employment prospects.  That spells revolution in most historical cases.

What is happening in China will happen to us.

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Chinese shoppers struggle with spiraling prices

Chinese shoppers struggle with spiraling prices as government tries to cool inflation

A woman selects vegetables on a store inside a market in Beijing, China Tuesday, Feb. 15, 2011. A jump in food prices pushed China's inflation higher in January, adding to pressure on Beijing to control surging living costs. (AP Photo/Andy Wong)

Joe Mcdonald, AP Business Writer, On Tuesday February 15, 2011, 5:33 am EST

BEIJING (AP) -- Spiraling prices have made the grocery store a scary place for Chu Yun, a 27-year-old office clerk.

"Prices for everything are going up and it seems it will never stop," Chu said as she hunted bargains in a supermarket. "I have no confidence prices can be brought under control this year. I think they will keep going up."

China's public is struggling with a monthslong surge in food prices that has defied government efforts to combat inflation with interest rate hikes, price controls and a campaign to boost vegetable and grain output.

On Tuesday, the government reported inflation accelerated in January, rising to 4.9 percent from December's 4.6 percent. That was driven by a 10.3 percent jump in food costs amid tight supplies and strong demand.

Economists expect more sharp price rises in coming months because China faces a problem it cannot quickly fix: Demand is outstripping food supplies, while high global commodity prices mean it can't fill the gap cheaply with imports.

"Inflation is unlikely to come down substantially in the first half of the year," said Mark Williams of Capital Economics. Analysts expect more rate hikes, but Williams said that on their own, "they aren't going to bring more crops to the market."

Inflation is dangerous for China's leaders because it erodes economic gains that underpin the Communist Party's claim to power. And it hits the poor majority hardest in a society where millions of families spend up to half their incomes on food.

That is politically awkward as Beijing tries to enforce stability ahead of a once-a-generation handover of power next year to younger Communist Party leaders.

"The political backdrop of the transition is paramount in the policymakers' minds," said Dariusz Kowalczyk, senior economist at Credit Agricole CIB. "They realize the poorer people who still are the majority of China's population are hurt by inflation to a larger degree than they benefit from growth."

Beijing has tried to mollify the public by paying food subsidies to poor families, holding down prices in university cafeterias and ordering local leaders to see that vegetable markets have adequate supplies. It has tried to diffuse public frustration by claiming hoarding and price-fixing by speculators is partly to blame.

But analysts say Beijing also failed to act quickly enough to head off inflation after it deflected the 2008 crisis by flooding the economy with stimulus money and bank lending. The economic rebound gave consumers more money to spend and banks are pumping out loans despite orders to curb credit.

Beijing has raised interest rates three times since October, but economists say more rate hikes are needed and it will be months before the effect is seen.

"It seems Chinese policymakers are behind the curve in fighting inflation," Kowalczyk said. "They have been too cautious."

The headline inflation numbers hide even sharper increases in key items.

In January, the price of fresh fruit soared by more than a third from year earlier, while eggs rose by a fifth, the National Bureau of Statistics reported.

At the Xinya Shopping Center, a supermarket on Beijing's east side, the price of sugar is up 80 percent over a year earlier, while high-quality rice costs 65 percent more, according to manager Wang Yongyi.

"Since the second half of last year, we have been busily changing the price tags to mark the prices up," Wang said. "It seems that the more control we had from the government, the higher prices rise."

Inflation could also spill over into higher Chinese export prices. That might raise costs for Western consumers but also could help countries such as Vietnam and India compete with China as suppliers of clothing, furniture and other low-cost goods.

Global Sources, a company that connects Chinese suppliers with foreign customers, said this week that a survey of 232 Chinese companies found 74 percent of them raised prices last year -- some by up to 20 percent -- due to higher costs for materials and components.

"China is steadily moving away from being the world's low-cost source of various products," the company said in a report released this week.

A separate Global Sources survey of 385 foreign buyers last month found 31 percent were increasing purchases from Vietnam due to higher Chinese prices.

Higher inflation also might prompt Beijing to slow the rise of its currency, the yuan, against the U.S. dollar to help its exporters compete. That might add to strains with Washington and other governments that complain the yuan is kept undervalued, giving China's exporters an unfair advantage and adding to its huge trade surplus.

Adding to pressure on food supplies, China's northeast faces a crippling drought that threatens its winter wheat crop. Global wheat prices are high, limiting Beijing's ability to fill the gap by boosting imports at a reasonable price.

The government has launched a $1 billion campaign to save the harvest with emergency irrigation and cloud-seeding to make rain.

"I hope the government can rein in the food price rises this year, or else people's lives will be greatly hurt," said Wang, the supermarket manager. "No matter how high prices go, people need to eat anyway, right?"

AP researcher Yu Bing contributed.

China National Bureau of Statistics (in Chinese): http://www.stats.gov.cn

China's Economic "Hard Landing" Will Cause a Commodity Crash, Says Gary Shilling

by Peter Gorenstein

China, now the second largest economy in the world, is headed for (relatively) hard times, says economist Gary Shilling, president of A. Gary Shilling & Co. He expects the economy will experience a "hard landing within this calendar year or perhaps the first half of the next calendar year," he tells Aaron Task in this accompanying clip.

China's Hard Landing Is Another Country's Boom

Shilling says a hard landing will result in 6% growth, not the double-digit growth they've been used to over the past decade. The irony, of course, is that kind of growth in the U.S. and other developed countries would be considered an economic renaissance. But not in China.

It's the Inflation, Stupid

China is currently trying to battle inflation that rose 5 percent in January and included a 10 percent gain in food prices, putting new stresses on domestic consumers. Shilling says rising prices are an ill effect of China's $585 billion stimulus package implemented in 2009, in the wake of the global financial crisis. 

The stimulus package, which amounted to 12% of the Chinese economy -- twice as large a percentage as the U.S.'s stimulus -- has manifested itself in a commodity and speculative real estate bubble that Shilling thinks is set to pop.

So far, Beijing has unsuccessfully tried to cool the economy by raising interest rates three times since October.  It won't have the desired effect, Shilling argues.  "I think that they are probably going to overdue it."

Commodity Crash Coming

That hard landing is bad news for commodity prices.  He's betting against the entire commodity complex, saying once the industrial metals such as copper fall, it will cause a domino effect in agricultural products such as cotton, wheat and soy beans.

That commodity crash will also manifest itself in weaker "commodity" currencies such as the Australian dollar, the New Zealand dollar and, to a lesser degree, the Canadian dollar.

Link to original article: http://finance.yahoo.com/tech-ticker/chinas-economic-hard-landing-will-cause-a-commodity-crash-says-gary-shilling-yftt_535929.html