Overview

Since the second half of 2004, the downward trend of the GDP deflator has slowed sharply.

The some of the factors behind the recent slowing of the downward trend are temporary and, in the short term, against the backdrop of (i) a growing supply-demand gap and (ii) the attenuation of temporary factors that tend to exert an upward pressure, the GDP deflator is likely to continue its gentle decline.

In the medium term, assuming that the Chinese economy continues to grow at its present rate it is possible that the GDP deflator will begin to rise once more against the backdrop of (i) a narrowing of the supply-demand gap and (ii) the progressive passing on of the rise in raw material costs to prices.

However, as the slowdown in the downward trend and beginnings of an upturn in the GDP deflator have a strongly cost-push side, they cannot be interpreted in an entirely positive light. In other words, they also have negative consequences, namely (i) downward pressure on demand owing to the rise in prices, (ii) a fall in business profitability, which will exacerbate the tendency of companies to try to curb personnel costs and delay the recovery of domestic demand.

Accordingly, there is little need for the government to make substantial changes in its policy stance simply because the GDP deflator has begun to rise. At least until it is able to ascertain a redistribution of income from the corporate sector to the household sector, the government should maintain its cautious stance on switching from a policy of monetary easing to one of monetary stringency, and on increasing the tax burden.

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