Rising renminbi, not inflation, holds key

US figures show that the renminbi price of China's exports to the US is actually about 2 percent lower today than a year ago and that, in fact, prices have been falling at that rate or faster for most of the last five years.

How can this be when wages are rising so fast? Simple. China's firms are becoming much more productive, too. Each worker is taking home more pay but the wage bill for each crate of goods sold has been flat or falling. In fact, productivity has risen so rapidly that export prices in US dollars have increased only 8 percent since 2005, even though the renminbi has risen more than three times as fast.

The upshot is that China remains firmly entrenched as the world's low-cost producer despite current inflation troubles and rapidly rising wages. But there are two other ways in which China and global inflation are entwined.

The first is through China's role in pushing commodity prices higher. Given its current momentum, China's economy should be able to take these cost increases in its stride. Not so with other major economies where recoveries are already faltering. In these places, high commodity prices are eating into the disposable incomes of workers who are already rattled by high unemployment levels. High commodity prices may also prompt policymakers to raise interest rates earlier than they would otherwise have done.

The second link is through Chinese policymakers' reaction to domestic inflation concerns. Senior figures have been dropping hints over the last few weeks that officials will allow the renminbi to revaluate faster to limit the pass-through from high global commodity prices to the domestic economy.

Measured in dollars, US imports from China today cost only 3 percent more than a year ago. But if policymakers follow through, the price that foreigners pay for Chinese goods will rise by more in the months ahead. Anyone worried about China exporting inflation should be watching the renminbi rather than the current level of China's consumer price inflation.

The author is a senior China economist at Capital Economics, a London-based independent macroeconomic research consultancy.