China’s economy at boiling point?

When is an economy over-heating? We hear this phrase a lot especially during a boom when we are told are growth is becoming unsustainable, unbalanced, excessive - sometimes all three! There is little danger of the UK economy over heating at present, if anything the risks of growth are firmly on the downside. But what about China? Deutsche Bank’s latest macroeconomic research hints that the rubicon has been crossed and that we can now describe China as an economy where boiling point has been reached.

Their over-heating indicator is based on five macroeconomic indicators mainly centred around internal domestic factors likely to cause demand-pull inflation rather than inflationary threats that come from outside the economy - for example shocks to global food and energy prices.

The variables are:

(1) Merchandise imports - to take the temperature of overall domestic capital investment and consumption demand;

(2) Retail sales as a gauge for private consumer demand for goods and services

(3) Industrial sales, a proxy for industrial production, as a gauge for investment activity;

(4) Money supply (M2) as a gauge for inflationary pressures arising from monetary policy;

(5) Financial Institution loans, to gauge the risk of a boom-bust credit cycle.

Deutsche’s conclusion?

‘For the first time since Aug 2006, the Chinese economy has entered into overheating territory, as measured by our China Overheating Indicator. Imports, retail sales, industrial sales, money supply and bank loans have continued to register strong gains of close to 20% year on year or higher.’

They expect the Chinese authorities to continue to use higher official interest rates in a bid to slowdown the rate of growth amd (significantly in my opinion) the Chinese may well allow a faster appreciation of the Yuan-Dollar exchange rate to slowdown the pace of growth of aggregate demand and help to control inflationary pressures from the rising cost of imports. With Chinese inflation at an eleven year high and growth set to slow, the Chinese economy is starting to reveal many of the pressures and tensions that other countries have suffered when growth has reached super-charged proportions.