China’s Economy at a Turning Point

English: Scatter graph of the People's Republi...

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All this year, the drumbeat with respect to China’s economy has been consistent. As the economies in Europe and the United States, China’s two largest export markets, have continued to struggle, and China has tightened credit in its war against inflation, the China economy has been slowing noticeably. In this year’s third quarter, China’s gross domestic product expanded at the slowest pace in nearly two years. GDP growth moderated to 9.1 percent in the third quarter from 9.5 percent in the second, with many economists expecting less than 9 percent growth in 2012.

All signs, though, now point to a change in policy — and a potential change in the headlines coming out of China. This should be a welcome relief to global stock markets which now closely monitor economic events in the country.

Why the sudden change? With the country’s inflation rate slowing to 4.2 percent in November, China appears to be on the downhill side of its inflation battle. From a peak of 6.5 percent in July, prices eased to 4.2 percent in November, the lowest since September 2010. Because two-thirds of China’s inflation over the past 12 months has been food-related, regulators have had no choice but to take all measures to bring rising prices under control. Approximately 900 million Chinese still live in the rural economy and have annual average per capita incomes of $900 or so. For this group of Chinese, food makes up a high percentage of annual household purchases.

With inflation coming under control, China’s economy may now be at a turning point. As we reported in a recent post on the subject, the People’s Bank of China announced in November that it would reduce the reserve requirement ratio by 0.5 of a percentage point, effectively increasing the amount of money banks can lend. This was the first time that the PBOC had cut bank reserve levels in three years, the first signal that monetary policy in China is changing.

At the end of a Central Economic Work Conference that just ended on Wednesday in Beijing, where high-level policymakers from departments in the central government, the military and provincial-level governments discussed the general direction of economic policy for 2012, the leaders issued a statement that provides more clues as to China’s future direction. The statement made clear that China would continue to maintain its current “proactive fiscal policy and prudent monetary policy.”

Furthermore, policy makers pledged to ensure that macro-economic policies and overall consumer prices remain basically stable, and that they aim to also keep the yuan’s value “basically stable” while pushing ahead with reforms aimed at liberalizing the country’s interest exchange rates. The statement also included commitments to “improve the quality of macro-regulation and maintain stable and relatively fast economic growth.”

Reading between the lines of the official government release, many economists concluded that China’s top leaders will focus on slowly revving up the world’s second largest economy in the coming year, rather that taming rapidly rising prices as it did in 2011. “For most of the last year, officials reiterated that controlling inflation was the primary task. Now, this goal is preceded by the goal of maintaining stable growth,” said Mark Williams, chief Asia economist for Capital Economics.

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