Introduction

An article is published in The Sydney Morning Herald on May 9, 2014 reporting about the present inflation rate of China. The reason behind choosing this article is it is a contemporary economic issue and significant too. Inflation is an important economic measure which represents the present economic situation of a nation. The concept of inflation and deflation is very relevant in the economic discussion. Additionally, this will give an in depth idea about the theories of inflation and its implications. These are the major reason for selecting the article for composing this essay. In this article, significant information has been published. The annual inflation rate is estimated and declared. It has depicted a significant fall which may be referred as deflation. In April of 2014, it is estimated that the annual inflation of China is 1.8% which is seemed to be the lowest in the last eighteen months. The major implications of the sharp fall of China’s inflation are the major objective of this paper. In the following section, the concept of inflation, relevant theories and the findings of the newspaper article are discussed. Moreover, with the help of the economic theories, the major implications of this incident will be identified.

Discussion

The selected article is focuses on the sharp fall of the China’s inflation. China is the second largest economy of the world. The inflation of this nation needs to be explained with the help of relevant economic concepts and theories. In order to analyze this issue, a brief discussion about the concept of inflation and deflation needs to be done.

Inflation refers to a situation where the price of goods and services rise over a certain period of time. When the price of product rises, the purchasing power of the people of that nation falls as a unit of currency can buy fewer products. Due to inflation the value of the currency of that particular nation depreciates. It is found that when the level of currency in a country is more than the level of its production, inflation takes place. So, in other terms inflation can be defined as a situation where the value of money is decreasing with the rise in price of goods and services. There are different types of inflation such as open inflation, suppressed inflation, galloping inflation, creeping inflation and hyper inflation. The categorization is done on the basis of the nature of the inflation. Inflation is measured by consumer price index (Dwivedi & Dwivedi, 2005).

The major causes of inflation are given below:

• If the money supply in an economy increases, inflation takes place.
• If the disposable income of the people of a particular nation increases, the tendency of consumption increases. In this situation, inflation takes place.
• Due to deficit financing, inflation occurs.
• According to the theory of cost push inflation, if the cost of production increases, there is a drop in the supply. As demand exceeds supply, price will increase and inflation will take place.
• A short term relationship between unemployment inflation had been established. According to Phillips curve if the unemployment rate decreases, the inflation rate will increase (Arnold, 2011).

These are the principle reasons of inflation. The major effects of inflation are discussed below:

• There is an uncertainty about the future economic situation.
• The market becomes inefficient and the companies find difficulty in planning log term activity.
• Budgeting of a company becomes very difficult as the market becomes highly unpredictable.
• Inflation discourages saving and investment.
• In this situation the consumption of people increases.
• The exchange rate fluctuates and becomes instable. It affects trade.
• Income tax rate becomes higher.
• If the inflation rate of a country is more than compared to other countries then there will be an increase in import and decrease in export. It results in deficit in the balance of trade (Mankiw, 2007).

Deflation is an opposite situation of inflation. In this case, the price of product decreases and the purchasing power increases.

From this article, we get to know that the consumer price of China is decreasing (The Sydney Morning Herald, 2014).  If the annual consumer price index of China is considered it can be seen that the in the last ten years the highest rate of inflation was observed in the year of 2008 (5.9%) (Indexmundi.com, 2014). The economy of China has experienced various inflation rates and the negative inflation (i.e. deflation) too. According to National Bureau of Statistics the annual inflation rate of China is 1.8% in April and just one month back it was 2.4% (Uk.reuters.com, 2014). Moderate inflation is expected to gain sustainable economic growth. But the government of China is worried as the sharp decline of the inflation rate indicates the risk of deflation. It is a major concern for China as the low inflation rate do not seems to be favorable for the growth of the market. Due to fall in inflation rate, consumers will be discouraged to buy products. Deflation implies a situation where prices will continue to fall. In case of higher inflation rate, it is observed that the consumption increases. Deflation has both positive and negative implications. When inflation rate decreases the rate of consumption also reduces. It means that supply is more than the demand. In case of China it will be seen that the people will be reluctant to buy and it carries a negative impact for the economy. It is observed that in this situation, investor will delay in making investments which inhibits economic growth. Moreover, deflation leads to recession. From the Philips curve, we can see that with the fall in unemployment rate, the rate of inflation increases. As the rate of inflation decreases in China, there will be an increase in the unemployment rate. It has a negative consequence for China. There is only one positive impact of deflation. The cost of production will decrease due to deflation. As the price of goods fall, it becomes affordable for larger number of people. But, for China the negative impacts are more than the positive.

Conclusion

In conclusion it can be said that, the decrease in the inflation rate do not have a positive implication for China. China is worried as lower inflation rate affects the economic growth of the country. It will hinder the investment and the consumption will be significantly low due to low inflation rate. From the Phillip’s Curve it can be implied that China will face recession. Only one positive impact of low inflation rate is found. The cost of production will be low and the price of product will decrease. But, the negative impacts of the low inflation rate are predominant as there is a risk of deflation.

References

Arnold, R. (2011). Principles of macroeconomics (1st ed.). Australia: South-Western Cengage Learning.

Dwivedi, D., & Dwivedi, D. (2005). Macroeconomics Theory and Policy (1st ed.). New delhi: Tata McGraw-Hill Publishing Co. Ltd.

Indexmundi.com,. (2014). China – Inflation rate (consumer prices) – Historical Data Graphs per Year. Retrieved 9 May 2014, from http://www.indexmundi.com/g/g.aspx?c=ch&v=71

Mankiw, N. (2007). Macroeconomics (1st ed.). New York: Worth Publishers.

The Sydney Morning Herald,. (2014). China inflation drops to 1.8% in April. Retrieved 9 May 2014, from http://www.smh.com.au/business/china/china-inflation-drops-to-18-in-april-20140509-37zxd.html

Uk.reuters.com,. (2014). GLOBAL MARKETS -Asia shares step cautiously around tame China inflation| Reuters. Retrieved 9 May 2014, from http://uk.reuters.com/article/2014/05/09/markets-global-wrapup-idUKL3N0NV01020140509