The earthquake and its corresponding devastation are almost certainly going to complicate matters horribly for the PBoC in its attempt to manage monetary policy and fight inflation. The earthquake will not only impact agricultural production and the ability to deliver products to the market, but reconstruction will fuel a boom in demand for energy, materials, and a wide variety of related goods and services. Recognition of the impact of the earthquake both on loosening monetary policy and on increasing the demand for a variety of goods seems to have powered the stock market today. It closed up 2.73% [recently], driven by smelters and banks.
The government?s automatic response to this potential surge in demand is to clamp down even tighter on price increases, but this cannot possibly have any but the most adverse effect. After all it is one thing to freeze prices in order to drive out inflationary expectations, but the earthquake has caused a real increase in demand and a real decrease in supply?and the stock market immediately recognized that fact. How can price freezes possibly eliminate the disequilibrium?
In fact, [recently] China Daily had a very long article on the difficulty of maintaining existing price freezes. It explores both the difficulty of keeping prices at current levels?shortages and an increasing fiscal subsidy?and the difficulty of letting prices rise – the inflationary impact. People like me of course will point out that price freezes simply convert inflation from one kind, the kind that?s measured in CPI, to another, the kind that shows up as shortages and higher taxes, but the idea that China does not have monetary inflation, simply a temporary food-supply problem, has become so ingrained in policy, even though fewer and fewer people believe it, that its impact will stay with us for a while.
?china-economics-blog.blogspot.com