China has taken an important symbolic step toward addressing a persistent drag on its economy. Much attention has been focused on the cost that US President Donald Trump’s tariffs will inflict, the mounting toll of a real-estate crisis, and even the long-term impact of a shrinking labor market. It has been easy to forget that Beijing has an inflation problem.
Not the surging — and now receding — prices that just about every other economy has wrestled with. Instead, Beijing is haunted by the specter of deflation. Premier Li Qiang told legislators gathered Wednesday at the National People’s Congress that he will target inflation of 2% this year, the lowest level in more than two decades. That might not sound like a big breakthrough, given most countries aim for something in that vicinity, and Li’s ambitions to boost government and consumer spending. But the first stage in solving any problem is acknowledging there is an issue in the first place.
Rock-bottom inflation had faded from the radar as a hurdle for China. Gaming out what Trump’s return to the White House means for everything from Russia’s invasion of Ukraine to President Xi Jinping’s plans to bring Taiwan to heel has clogged the airwaves. Happily, the premier has put the issue back in the spotlight.
Just as important as the desired level of inflation is the contrast with the objective in the past. The longtime aspiration was for 3%, a level that is plainly out of reach. Consumer prices rose just 0.5% in January from a year earlier and, aside from a brief period in 2022, they haven’t gained at a 2% clip since the first months of the pandemic. That kind of pace is also unlikely to be met this year; it would take a stellar revival in the domestic economy to get there. The point is the gap between reality and aspiration.
The shift encourages policymakers, in theory, to do something to meet the new number. When authorities around the world began to adopt targets in response to politically bestowed mandates for price stability, the idea was that actions would be geared to their pursuit. In many instances, that meant freeing central banks to raise interest rates long enough to grind CPI down. The institutions were mostly granted independence alongside those goals. This was predominantly a 1990s story and the notion that inflation would slip far below those targets was barely considered. That changed with the subprime crisis a decade later, its aftermath, and then the early stages of the pandemic. It wasn’t until after inflation quickened in late 2021 that borrowing costs were jacked up.
China had a different story then — and does now. Little in the country is truly independent of the Communist Party or beyond Xi’s personal reach. The People’s Bank of China answers to politicians, and top officials tend to be party cadres. But the PBOC is the central bank of the world’s second-largest commercial power, so its views and operational priorities do count for something. Global audiences don’t hang on the words of Governor Pan Gongsheng the way they do those of Federal Reserve Chair Jerome Powell or Bank of Japan boss Kazuo Ueda, but nor do they tune Pan out. They certainly don’t ignore what Xi or Li say on the economy. The message from the latter is “loud and clear,” according to Bloomberg Economics. Goals “will require considerable policy support to achieve.”
As a practical matter, what can Beijing do? In the past, inflation goals announced at party conferences have tended to be regarded as ceilings rather than firm targets. The standard tools, such as rate cuts and relaxing reserve requirements have already been deployed, though in a modest manner. Monetary easing tends to weaken a currency and officials are reluctant to let the yuan slide quickly; the PBOC has enormous influence over the yuan’s movements on a a daily, weekly and monthly basis. It’s down 3% over the past 12 months. Fiscal levers have a big role to play.
Is there anything magical about 2%? When the Federal Open Market Committee debated whether to adopt a formal target in the mid-1990s, Alan Greenspan had reservations. He fretted that announcing a hard target would tie the chair’s hands, robbing him and his successors of discretion when it was most needed. He jousted with Janet Yellen, then a Fed governor, about what level of inflation would be most consistent with price stability. They coalesced around 2%, a figure that was popular with monetary thinkers at the time. Critically, the Fed held back from enshrining this as a long-term objective until long after Greenspan departed. It was a very big moment in the annals of central banking.
Can Chinese policy rise to the moment? Skepticism is certainly warranted, but here’s hoping words count for something.
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