By Dong Zhixin and Li Hong (chinadaily.com.cn)
Updated: 2008-02-04 15:55

China's policy makers are finding themselves slipping into a difficult alley as the Chinese New Year of the Mouse begins amid a likely global economic slowdown, and unexpected havoc caused by an enveloping snowstorm in the country's southern powerhouse, and rising domestic inflationary pressure, which the recent blizzards could make worse.

Against this backdrop, even the best central bankers would scratch their heads hard. To fight inflation, People's Bank of China, the central bank, needs to phase in a tightened monetary policy. But in order to prevent the economy from following the heels of an imminent American slump, or to stand up as a global significant economic engine or star, as widely hoped for, Beijing needs to keep the major world developing machine well-oiled and going up, and up. 

Some have advocated that a relatively loose monetary policy be maintained to avert a possible slowdown, which won't bode well for China's nascent property and stock market, and may bring real trouble to China's banks and a fragile financial system, and even endanger job security and social stability.

However, the rising cost of living as a matter of fact, also calls for more reining-in of credit. Back in December, regulators decided to shift the country's decade-old "prudent" monetary policy to a "tight" one to address two of the biggest threats: economic overheating and rising inflation. Last year, China's gross domestic product expanded 11.4 percent year-on-year, while the consumer price index, a major gauge of inflation, jumped to the highest level in more than a decade.

However, sometimes things do change in a glimpse.

The first negative news came from the other side of the Pacific. The economy of the United States started sliding into a possible recession. A recent survey among top American economists puts the likelihood of an American recession at 50-50, up from 30 percent four months ago. The American housing debacle has deteriorated, eating away billions of dollars in mortgage investments and leading to a slew of American heavyweight banks reporting big write-downs and crying for cash. Wall Street is in jitters. Though Bush and Congress rushed up to help with a hastened economic stimulus plan, no one can now be sure to see the ray of light at the end of tunnel.

Merrill Lynch forecasts the world's largest economy, growing a tiny 0.6 percent in the last quarter of 2007, this could contract by 0.5 percent during the first three months of 2008. A slump in the American economy will create big challenges to China's economic well-being, as the two economies are closely intertwined. Any economic woes will spread worldwide, eroding the market of consumption for Chinese goods. Citigroup research estimates that for each one percent slowdown in the US economy will shave 1.3 percent off China's growth.

The other bad news comes from the home turf: a blizzard at a scale not seen since 1951 pummeled the southern economic powerhouse of China, paralyzing transportation, crippling power supply and making millions of people suffer in extreme cold. The result was a halt of production in many factories -- an unwelcome way of cooling-off in the economy.

Some in China and elsewhere anticipate that the blizzards may drag down China's GDP in January by one percent. As the snow and icy rain continue till after the Spring Festival weekly holidays, as predicted by the weather forecasters, economic growth in February and the first quarter will feel the impact.

Consequentially, it seems improper for Beijing to stick to a "tight" monetary policy, by announcing more interest rate rises, in contrast to US Federal Reserve's incessant rate cuts during the past two months. In fact, the People's Bank of China issued a directive late January, asking commercial banks to give more credit to firms in the southern affected regions to help arrest the disaster. That was interpreted as a policy revision.

Another sign of possible credit ease came from President Hu Jintao. Policy makers should have a clear understanding of current global economic trends, their influences on the home economy especially, and prepare for a fast-changing and complicated situation in 2008, Hu was quoted as saying at a meeting of top Chinese leaders on January 27.

"We have to have a good control over the pace and strength of macro-control, so as to prolong steady, relatively fast economic growth as long as possible," President Hu said. Many analysts saw that as an indication of a prompt policy readjustment in keeping to changes at home and abroad.

However, any ease in monetary policy will be a tough call, as the country is facing the wrath of a climbing inflation not seen in more than a decade. Some newspaper commentators in China have asked for more interest rate hikes. As a matter of fact, to curb the prices of food from rising is the key to fight inflation. Chinese officials have said that the supply of grain, meat, eggs, fruits and edible oil will improve after the spring season, which may keep CPI at bay.

At times like this, there is always criticism of the central bank and other top regulators -- for moving too fast or too slowly, for doing too much or too little. The Chinese economy is so big and complex, and the data so contradictory at turbulent times such as this that even the best economists would disagree sharply.

The side effects of further monetary tightening are obvious. It will make small and medium-sized businesses -- key employers of newly added workers -- hard to get loans, endangering their survival. Any more tightening measures will not be instrumental in generating productivity, which is needed after a terrible storm.

Tightening in the form of rising interest rates, will also force Chinese homeowners to pay higher mortgages, increasing the risk of default. Property developers -- a heavy borrower from banks -- might also fail to make their payment to the lenders. Both scenarios will spell trouble for Chinese banks.

Starve the economy of credit, and it withers. Overfeed it, and it overheats with inflation. Giving the uncertainties surrounding the economy after domestic and global factors are taken into account, it now seems better for the central bank to keep its position, leave the interest rate intact, and the bank reserve requirement on hold for a couple of months, and monitor the latest developments closely before deciding what to do next.