New Delhi, March 21 China could move out of deflation but into a harmful form of 'cost‑driven inflation' as the Iran war pushes global energy prices higher, a new report has said.
Rising oil costs are lifting production costs in China even while domestic demand remains weak, pushing companies into a space where they are unable to raise prices significantly, a report from EU-based Modern Diplomacy said.
"Higher energy and raw material costs will likely squeeze profits further. Instead of passing those costs on to consumers, many firms are expected to absorb them, cutting into wages and hiring," the report said.
China’s manufacturing sector already operates on thin margins, with roughly a quarter of firms reportedly running with losses amid overcapacity and intense competition, the report claimed.
“Income growth is slowing, and more than half of workers did not receive a pay raise last year. Some even took pay cuts. Youth unemployment remains elevated, with many struggling to find work despite hundreds of applications,” it said.
Amid wages stagnation, consumer spending falls, reinforcing the very deflationary pressures China has been trying to escape and companies find themselves with limited growth prospects.
The Chinese economy has been driven mainly by its exports but a slowdown in global consumption triggered by higher energy prices could impact exports. “Economists warn that a sharp rise in oil prices could shave noticeable points off GDP growth,” the report said.
“Even if China gains some competitive advantage due to its investments in electric vehicles and renewable energy, weaker global demand will offset those gains,” it added.
Further disruption of energy supply, trade routes from Middle East conflict, which feed directly into China’s vulnerabilities.
“If the war driven energy shock persists, China may find itself caught in the worst of both worlds: not deflation, not healthy inflation, but a prolonged period of weak growth with rising costs,” the report warned.
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