Weak Demand and Industrial Pressures Weigh on Economic Recovery
China’s consumer prices declined for the fourth consecutive month in May, underscoring persistent domestic demand weakness despite government stimulus efforts. The National Bureau of Statistics reported a 0.1% year-on-year drop in the consumer price index (CPI), slightly worse than Reuters’ median forecast of a 0.2% decline.
This marks the continuation of a deflationary trend that began in February (-0.7% YoY), with March (-0.1%), April (-0.1%), and May all showing year-on-year price decreases. While core inflation (excluding food and energy) rose 0.6% in May – the highest since January – the broader deflationary pressures remain concerning.
Industrial Deflation Intensifies
Factory-gate prices suffered an even steeper decline, with producer prices falling 3.3% YoY in May – the sharpest drop since July 2023 and worse than analysts’ expectations of a 3.2% decrease. Wholesale prices have now remained in deflationary territory since October 2022.
The steepest declines came from coal mining (-18.2% YoY) and oil/gas extraction (-17.3% YoY), according to official data. These figures highlight ongoing weakness in China’s industrial sector, which continues to struggle with overcapacity and weak demand.
Automobile Price Wars Exacerbate Deflation
Pinpoint Asset Management’s chief economist Zhiwei Zhang noted that brutal price competition in the automotive sector has significantly contributed to downward price pressures. “The price war in the auto sector is another signal of fierce competition driving prices lower,” Zhang observed, adding that falling property prices have further weighed on consumer prices.
Despite China’s strong export performance, Zhang emphasized that “eventually China needs to rely on domestic demand to fight the deflation.” This reflects growing concerns about the sustainability of China’s recovery, which has so far relied heavily on external demand.
Policy Response Under Scrutiny
NBS Chief Statistician Lijuan Dong called for “more forceful and targeted stimulus measures to boost consumption,” signaling potential additional policy support.
Chinese policymakers have already taken action, with top financial regulators announcing a package of measures on May 7 that included:
A 10-basis-point cut to the benchmark interest rate to historic lows
A 50-basis-point reduction in the reserve requirement ratio
However, these measures have so far failed to halt the deflationary trend, raising questions about whether more aggressive action will be needed.
Trade Tensions Complicate Recovery
The external environment remains challenging as US-China trade relations see-saw between progress and setbacks. After reaching a preliminary agreement in Geneva that reduced tariffs from prohibitive levels (145% to 51.1% for US goods, and from unspecified high levels to 32.6% for Chinese imports), tensions have flared again.
Recent disputes include:
US accusations of China slow-walking rare earth exports
Chinese criticism of new US restrictions on student visas and chip exports
Chinese Vice Premier He Lifeng is scheduled to meet with US Treasury Secretary Scott Bessent in London for renewed trade talks, even as both sides accuse each other of violating the Geneva agreement.
Market Expectations and Upcoming Data
Amid these uncertainties, markets are watching for potential additional monetary easing:
China Securities Journal recently suggested the People’s Bank of China (PBOC) may cut the reserve requirement ratio further this year
The central bank may also resume government bond trading after pausing in January
Financial policymakers, including PBOC Governor Pan Gongsheng, are expected to discuss these issues at the upcoming Lujiazui Forum in Shanghai.
China will also release May trade data later Monday, with Reuters consensus forecasts showing:
Exports: +5% YoY
Imports: -0.9% YoY
The persistent deflationary pressures highlight the challenges facing China’s economic recovery, with policymakers facing increasing pressure to deliver more effective stimulus measures while navigating complex trade relations.
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