Protracted price decline in China has increased the risk of deflation mindset becoming entrenched. Policy makers have stepped up efforts to expand effective demand; zero rate and QE not on the agenda. Recent high-level meetings targeting disorderly competition herald more supply-side actions, in our view. Expect more market-based measures this time around; PPI may turn positive in 6-12 months, Standard Chartered's economists report.

When too much supply becomes a problem

"China’s policy makers are increasingly wary of the risk of prolonged deflation, in our view. PPI has declined since October 2022 and CPI inflation has hovered around zero recently. As expectations of price declines take root, consumers tend to postpone spending and businesses tend to reduce investment, depressing domestic demand. Nominal GDP growth has been below real expansion for nine consecutive quarters, contributing to the widening US-China GDP gap in recent years despite higher real growth in China. Reflation appears to have gained importance on the policy agenda, with the aim of breaking the cycle of falling prices and weaker demand."

"To boost domestic demand, the authorities adopted an expansionary budget and shifted to a 'moderately loose' monetary policy stance this year. However, there seems to be no appetite for a bazooka-type stimulus on efficiency, social equity and sustainability considerations. We do not think China will resort to zero interest rates, quantitative easing (QE) or CNY devaluation to reverse deflation."

"Recent calls from top leaders to rectify ‘involution’ and disorderly competition are likely to be followed by more supply-side actions to prevent repetitive investment, reduce excess capacity and deter domestic dumping. This round of capacity cuts involves industries dominated by private firms (e.g., NEVs); as such, market consolidation could take time. It may take 6-12 months before PPI inflation turns firmly positive."