China adds deflation threat to economic woes

March 10, 2009 6:09:29 AM PDT
China's consumer prices fell in February, adding the threat of deflation to the nation's economic woes, and officials warned the next few months look grim as the global downturn worsens. The 1.6 percent year-on-year fall in the consumer price index, announced by the government Tuesday, highlighted weakness in the world's third-largest economy as exports and consumer demand cool. Such a decline, if it continues, can drag down growth if consumers put off purchases in expectation of lower prices, forcing companies to cut wages and investment.

"We expect negative CPI could persist for much of this year," Citigroup economist Ken Peng said in a report. But others said inflation might quickly turn positive again as the government pumps money into the stumbling economy as part of its massive stimulus plan.

A 1.9 percent decline in food prices, a major component of the index, and declines in international commodity prices helped to drag the index down. So did excess inventories for many industries.

The government downplayed the likelihood of a deflationary spiral. It said the fall in the CPI - the first in more than six years - was due in part to inflation being very high in February last year, when the index's rise reached a 12-year high of 8.7 percent.

Premier Wen Jiabao, the country's top economic official, said last week the government expects prices to rise 4 percent this year.

A fall in consumer prices will be a relief to struggling Chinese households. But deflation could undermine the 4 trillion yuan ($586 billion) stimulus, which aims to reduce reliance on exports by encouraging China's own consumers to spend more.

The industry minister warned Tuesday that many industries suffer from overcapacity, which could lead to pressure to cut prices further.

"Many industries have more supply than demand, so now that we are working to expand the capacity of these industries, they may face new problems because of shrinking demand," Li Yizhong said at a news conference.

Although city dwellers rarely see evidence of falling prices on grocery shelves, some businesses say they are cutting prices.

"We adjusted our prices downward by about 10 percent between December and February," said Zhai Zhi, a salesman at Synear Food Co., a maker of frozen dumplings and snacks based in central China's Henan province.

Synear was cutting prices to match competitors and reflect lower costs, he said.

Officials also warned Tuesday it was too soon to say economic conditions were improving. They were unusually somber at a time when Chinese leaders have been highlighting positive economic signs and trying to boost public confidence.

"We should not be overly optimistic. China's industry is still in its most difficult situation," Li said. "The international financial crisis has not bottomed out and it is having a more and more profound impact on China's economy."

Power consumption, a key economic indicator, fell by 3.7 percent in January and February from the year-earlier period, according to Li. He said output of nonferrous metals also fell, indicating slack industry demand.

Trade fell again in February, Commerce Minister Chen Deming said at the news conference with Li, though he gave no details. In January, exports dropped by 17.5 percent while imports fell 43 percent.

"It's fair to say in coming months we will see quite a grim picture," Chen said.

The first CPI decline since December 2002 suggests Beijing can cut interest rates further as it tries to spur growth.

Royal Bank of Scotland economist Ben Simpfendorfer said China faces a "more durable deflation problem" unless it revives private investment and consumption and reduces reliance on government spending.

Adding to the gloomy economic news, the government reported housing prices fell in February for a third month, reflecting a sales slowdown that analysts say could hurt the economy as demand for building materials and labor shrinks.

Prices nationwide fell by 1.2 percent from the same month of 2008, with some areas suffering double-digit declines, according to the Cabinet's National Development and Reform Commission. Prices of newly built homes plunged by 17.4 percent in the southern financial center of Shenzhen, which borders Hong Kong.


AP Business Writer Elaine Kurtenbach in Shanghai and researcher Bonnie Cao in Beijing contributed to this report.


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