China focuses on domestic issues, risks US anger

China lendJun10.pngChina is a very difficult country for foreigners to understand. The blog suspects that the best approach is to apply Winston Churchill’s insight on Russia, namely “I cannot forecast to you the action of Russia. It is a riddle, wrapped in a mystery, inside an enigma; but perhaps there is a key. That key is Russian national interest.”
Looking at China in this light suggests that social stability is the key national interest at present. In turn, this means that policymakers at the Commerce and Finance Ministries have difficult issues to resolve:
• The Commerce Ministry has to deal with increasing labour unrest. As the Financial Times notes, “Signs are emerging that the labour protests in China are far more widespread and co-ordinated than previously thought“.
• The Finance Ministry has to cool a speculative boom, which is pushing up inflation and causing problems in the property sector. China’s home prices rose 12.4% in May, whilst inflation rose above target to 3.1%.
These two concerns are, of course, connected. Rising inflation and house prices naturally cause workers to demand higher pay, to maintain their standard of living.
Policymakers cannot afford to inflame further discontent. So they have to reduce lending from last year’s peaks. As the above chart shows, this is now down 31% by comparison with the first 5 months of 2009. Equally, there is increasing reliance on exports as a source of growth, with May seeing a 48.5% rise versus 2009 – a 6 year high.
But this focus on domestic issues risks increasing friction with the USA, where US Treasury Secretary Tim Geithner, told Congress this week that “China’s exchange-rate policy prevents a balanced global recovery“. US politicians cannot afford to seem uninterested in trade issues, with mid-term elections due in November and 1 in 6 Americans out of work.
US legislation in reaction to China’s exchange rate policy therefore looks increasingly likely. If this happens, the chemical industry, which has relied on exports to Asia over the past year, risks being caught in the cross-fire.

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