Richard McGregor

Raid on a piggy bank


any other country, a shortage of pigs might be brushed off as a temporary phenomenon, cured by another turn in the perennial “hog cycle” as rising prices prompt higher meat production.

But in China, where pork is the staple meat and food counts for a large part of the household budget, the shortage – and its feared spillover to other parts of the economy – is being treated as something approaching a national emergency.

The spectre of inflation fomenting broader discontent – as it did two decades ago, culminating in the Tiananmen Square protests of 1989 – taps into the deepest existential fears of Chinese rulers about mass disorder and regime survival. In recent weeks, protests by students angry at higher prices and smaller food servings in their canteens have been reported in Anhui and Guangdong provinces. Even in affluent urban centres, including Beijing and Shanghai, the food price rises are causing resentment.

Inflation hit 6.5 per cent in August, the highest rate in 11 years, largely because of a 49 per cent year-on-year surge in meat and poultry prices (see chart). The fact that non-food price gains have remained low, at less than 1 per cent, has not calmed the nerves of senior policymakers.

“We have entered a very delicate stage of our development,” says a senior economist and government adviser, asking not to be named. “For a long time, I was very optimistic about China’s growth, but now I am quite worried. Real inflation is much higher. No one believes the government’s figures.”

Inflation has lowered the attractiveness of bank savings, which pay only 3.87 per cent interest on a one-year deposit account. If negative real interest rates persist, policymakers fear depositors could flee the banks and pour more of their money into the already frothy stock and property markets. “Inflation and the asset bubbles are now supporting each other. This is very dangerous,” says the economist.

Two high-profile events on Beijing’s calendar have added to the pressure on the government. The five-yearly Communist party congress in mid-October will pick the country’s leadership team until 2012 and perhaps anoint a new generation of leaders to take over after that. August 2008, meanwhile, brings the Beijing Olympics, an event on which the government is betting China’s reputation.

In the short term, the government has also been rushing out a series of measures, in recent days freezing state-controlled prices and releasing meat from a “strategic pork reserve” as well as offering farmers incentives to raise more pigs and get them to market. Officials are anticipating a surge in demand during week-long National Day holidays that start on October 1 and are a time of family celebrations and banquets.

Albert Keidel of the Carnegie Endowment for International Peace in Washington, a former World Bank economist in China, paints a gloomy scenario about the unfolding crisis, saying “draconian steps to suppress inflation could cause hardship and social unrest”. If there were protests during the Olympics, “vicious reprisals could fill the global media” and severely damage China’s standing. “The consequences would hurt just not growth but also China’s commercial and political relationship with the US,” he adds.

The shortage of pork is a result of a convergence of factors. Porcine blue-ear disease swept through many farms late last year, killing millions of pigs. Feed costs rose as global corn prices were driven higher by a boom in demand for the crop for use in producing ethanol. Low pig prices in 2006 prompted farmers to raise fewer animals.

Some see this year’s resultant shortfall as indeed temporary and say the market is working the problem through. “As prices rose and blue-ear remained under control, farmers earlier this year began rebuilding their hog stocks,” says Andy Rothman, of CLSA, the brokerage, in Shanghai. “Since it takes about four months to raise a hog to slaughter weight, this means supply should begin to catch up with demand in September.” Wholesale pork prices have now declined for six consecutive weeks and are down 11 per cent from their peak.

If this trend is maintained, inflation too will abate, relieving much of the immediate pressure on the government. But if not, broader global concerns about Chinese inflation will grow, with the attendant risk of substantially higher wages and export prices. That, in turn, would mean higher prices for toys, clothing and a host of everyday goods in the Wal-Marts and Carrefours of the US and Europe. It would affect much of the developed world, which has enjoyed low inflation for the last decade partly because of a flood of cheap Chinese goods.

But many are sceptical that the hog cycle can be turned around so quickly. “This is not a blip or a temporary thing. It is a shift,” says James Rice, the China country head for Tyson Foods, in Shanghai. “When you want to increase your capacity [in this industry], it takes a long time.”

Farmers, concerned about their fully-grown pigs catching blue-ear disease, and eager to capture the high market prices, are also slaughtering them younger, meaning that the meat generated per animal is declining. Pigs usually slaughtered at 120kg are now being killed at a weight of about 75kg, says Mr Rice.

Central and provincial governments have responded with a range of measures, offering incentives to farmers to raise more pigs and even cutting road tolls for trucks transporting the animals to market. To great fanfare, the government last week released the equivalent of 30,000 tonnes of live pigs from what it calls its “central meats reserves”, also known as the strategic pork reserve.

This “piggy bank” consists of both live animals and frozen meat, according to the two ministries that manage it, but its size is a state secret. Mr Rice doubts it will have any real impact other than burnishing the government’s credentials in tackling the crisis. “They describe it as though they have pigs buried underground, like oil in wells,” he says. “It is not really a true reserve.”

With China consuming about 130,000 tonnes of pork a day, 30,000 tonnes will have little impact in any case. Anecdotal evidence from farmers also suggests that restocking will not be fast.

Li Yongqiang, who has raised pigs on the outskirts of Beijing for 19 years, says the wild price fluctuations for pork are making small farm operators cautious. Mr Li lost nearly half of his 4,000 pigs to blue-ear but says the high prices for the sows he needs to replace them make for a very risky investment. “It will take me about a year to get the new pigs to market, but most farmers have no idea what the price will be then,” he says. “Raising pigs is just like the stock market. If the prices are high, you will sell, but if they are low, you are stuck with them.”

The government’s rapid reaction, perhaps even overreaction, to combating price rises is already infecting broader economic policy. The central bank has lifted interest rates five times this year to try to keep prices in check. In recent days, the government has frozen all state-controlled prices, including those for fuel and electricity, in an effort to quarantine the impact of the food increases.

Both moves have potentially damaging consequences for key areas of economic policy. The rate rises will provide an extra incentive for capital inflows, according to economists, at a time when the central bank is already managing the monetary impact of trade surpluses of about $25bn (£12bn, €18bn) a month.

China’s tightly managed currency is also contributing to inflationary pressures. The central bank’s purchase of the incoming cash generated by the trade surpluses, a measure necessary to stop the renminbi from rising, is pushing up domestic liquidity and helping swell property and stock prices.

The freeze on fuel and electricity prices, meanwhile, runs counter to the government’s energy policies, which have been predicated on gradual cost increases in order to force lower and more efficient consumption. Chinese leaders, however, will have seen the eruption of street protests in Burma this month in the wake of sudden fuel price increases and will doubtless again resolve to delay a long-awaited reform further into the future.

Such remedies in any case do not tackle the structural nature of food inflation in China, according to Mr Keidel. He says the origins of China’s inflationary crises, in 1988-89 and again in 1993-96, lie in the country’s enduring “food security” policy and restrictions on imports. Like Japan, China believes that its national security rests on its ability to feed itself.

In pursuit of this policy, farmers who want to switch out of low-profit grain production have in effect been pushed back into those crops by government inducements whenever supplies subside and urban food prices rise. “China’s gathering inflationary storm today is not powered by international factors, like trade surpluses or increased foreign reserves,” he says. “It is a domestic storm, blowing in from the country’s grain-growing central regions.”

But while the food security policy remains in name, strong domestic food demand and the declining power of government to tell farmers what to do are unravelling it in practice. China’s output of fruit, for example, rose from 64m tonnes to 161m tonnes between 1999 and 2005, according to analysts at JPMorgan, while the proportion of land devoted to grain production fell from 72 per cent to 67 per cent.

The Communist party will not have forgotten that its rise to power in 1949 was substantially helped by the catastrophic inflation that helped destroy the credibility of its Nationalist rivals. The party’s first years in power were devoted to taming the inflation beast.

Against this background it is no wonder, as Mr Keidel notes, that Beijing has instructed local statistical bureaus not to use the word “inflation” to describe the recent high price rises. Officials at the state statistics bureau say they have received no “formal instructions” along these lines but add that it is understood they should talk about prices rising “too fast”, or being “too hot”, rather than use the I-word.

But if the official figure went over 10 per cent, they admit, they would have no choice but to describe the phenomenon by its real name.

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