Why Chinese Inflation Must Be Reined in

It’s now official. According to Japan, China’s nominal gross domestic product (GDP) of $5.87 trillion in 2010 has surpassed Japan’s nominal GDP of $5.47 trillion. But China continues to face surging inflationary pressures, leading to higher interest rates. How will all of this affect China, Chinese stocks, and us here in the U.S.?It’s now official. According to Japan, China’s nominal gross domestic product (GDP) of $5.87 trillion in 2010 has surpassed Japan’s nominal GDP of $5.47 trillion. But China continues to face surging inflationary pressures. China’s Consumer Price Inflation (CPI), excluding food, came in at a lower than expected 4.9% versus the estimate of 5.3%. Yet the problem is the country’s surging food inflation, especially in the rural areas. China’s Producer Price Inflation (PPI) was high at 6.6%, versus the estimate of 6.1%, which is worrisome.

I expect that interest rates will continue to ratchet higher over the next few quarters in order to rein in the inflation. The Chinese government is already placing a cap on certain food products and subsidizing some of the poorer rural workers.

Prior to the Lunar New Year holiday break, China’s premier Wen Jiabao said that the government would focus on inflation and property values.

Chinese inflation is a real potential threat to growth and stability not only in China, but also globally with its trading partners. We could see higher-cost Chinese-made goods as prices rise and this will drive up Chinese-made goods sold in the United States.

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With inflation at these levels, China’s inflation is a problem that needs to be rectified. The average inflation rate in China from 1994 to 2010 was 4.25%, so there needs to be some work done here to relieve the inflationary pressures.

Yet, overall, China is on the right path to developing into a rising world economic power as well as a basin for incredible and sustained growth across many sectors, including industrial, mining, energy, services and technology. If it is saleable and in demand, then you know that China will likely have the consumer market for it. China knows that and so do many of the top multinational companies, including many in the United States.

For 2010 and 2011, China’s GDP is estimated to grow by over 10%, according to The Organization for Economic Co-operation and Development (OECD). In fact, economic growth in the Asia Pacific region is promising, including seven percent projected growth in the developing Asian economies and a stellar 8.3% in China’s neighbor, India. China is working hard on increasing its trade and alliance with India.

Chinese stocks continue to show some buying momentum following the Lunar New Year break. The Shanghai Composite Index (SCI) has rallied since the holiday break, and it is now up 3.24% this year, which is subpar versus the U.S. indices, but is nonetheless encouraging.

Traders in Asia are probably encouraged by the Chinese government’s battle against inflation and to control the rate of growth. China needs to make it keeps its course and that it tackles inflation, since rising prices will hurt the majority of the 1.3 billion people living in China who are trying to just get by on a daily basis.