Solving the puzzle of China’s low inflation: A new perspective from sectoral core inflation fluctuations
Abstract
China’s constantly rapid economic growth accompanying by a low overall inflation has long been mysterious in macroeconomics. The core purpose of this paper is to solve this puzzle. Therefore, we integrate overdetermined set of equations into a MUCSVO model to explore the volatility mechanism of the overall inflation from a sectoral perspective. Our key findings include: 1) the hedging effect of sectoral inflation fluctuations principally accounts for China’s long-run stable overall inflation; 2) the main contradiction of China’s inflation has been shifting from high price levels in the traditional food and residence categories to rising prices in the health care category; 3) as the proportions of inflation in the food and residence categories fall steadily, sectoral inflation weights become more evenly distributed. In conclusion, China’s overall inflation and deflation will be much less likely to occur, while inflation is still of sectoral imbalance. Unusual price fluctuations in the food and health care categories, which are highly relevant to basic living standards of the low-income group, deserve close attention in particular. Overall, besides solving the puzzle of China’s low inflation, our model is applicable to economies that do not publish inflation weights, which is a useful extension of core inflation measurement.
First published online 15 March 2024
Keyword : sectoral core inflation, sectoral inflation weight, MUCSVO model augmented with overdetermined set of equations
How to Cite
Liu, D., Xu, B., Song, Y., & Liu, T. (2024). Solving the puzzle of China’s low inflation: A new perspective from sectoral core inflation fluctuations. Technological and Economic Development of Economy, 30(3), 783–808. https://doi.org/10.3846/tede.2024.20532
This work is licensed under a Creative Commons Attribution 4.0 International License.
References
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Fulton, C., & Hubrich, K. (2021). Forecasting US inflation in real time. Econometrics, 9(4), Article 36. https://doi.org/10.3390/econometrics9040036
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Giri, F. (2022). The relationship between headline, core, and energy inflation: A wavelet investigation. Economics Letters, 210, Article 110214. https://doi.org/10.1016/j.econlet.2021.110214
Hanif, M. N., Iqbal, J., Ali, S. H., & Salam, M. A. (2020). Denoised inflation: A new measure of core inflation. Journal of Central Banking Theory and Practice, 9(2), 131–154. https://doi.org/10.2478/jcbtp-2020-0017
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Hu, Y., & Zhang, P. (2021). Performance of China’s core inflation measures for monetary policy. The Singapore Economic Review, 1, 1–28. https://doi.org/10.1142/S0217590821500168
Huang, F., & Gan, L. (2017). The impacts of China’s urban employee basic medical insurance on healthcare expenditures and health outcomes. Health Economics, 26(2), 149–163. https://doi.org/10.1002/hec.3281
Jiang, J. H., Puzzello, D., & Zhang, C. (2023). Inflation, output, and welfare in the laboratory. European Economic Review, 152, Article 104351. https://doi.org/10.1016/j.euroecorev.2022.104351
Kim, H. H., & Lim, C. S. (2022). Aggregate and disaggregate trend inflation: Case of Korea. https://doi.org/10.2139/ssrn.4018097
Manopimoke, P., & Limjaroenrat, V. (2017). Trend inflation estimates for Thailand from disaggregated data. Economic Modelling, 65, 75–94. https://doi.org/10.1016/j.econmod.2017.05.009
Marques, C. R., Neves, P. D., & Sarmento, L. M. (2003). Evaluating core inflation indicators. Economic Modelling, 20(4), 765–775. https://doi.org/10.1016/S0264-9993(02)00008-1
Matilla-García, M. (2005). A SVAR model for estimating core inflation in the Euro zone. Applied Economics Letters, 12(3), 149–154. https://doi.org/10.1080/1350485042000307125
Mazumder, S. (2014). The sacrifice ratio and core inflation. Journal of Macroeconomics, 40(4), 400–421. https://doi.org/10.1016/j.jmacro.2014.02.002
Omori, Y., Chib, S., Shephard, N., & Nakajima, J. (2007). Stochastic volatility with leverage: Fast and efficient likelihood inference. Journal of Econometrics, 140(2), 425–449. https://doi.org/10.1016/j.jeconom.2006.07.008
Pincheira-Brown, P., Selaive, J., & Nolazco, J. L. (2019). Forecasting inflation in Latin America with core measures. International Journal of Forecasting, 35(3), 1060–1071. https://doi.org/10.1016/j.ijforecast.2019.04.011
Quah, D., & Vahey, S. P. (1995). Measuring core inflation. The Economic Journal, 105(432), 1130–1144. https://doi.org/10.2307/2235408
Richter, B., Schularick, M., & Shim, I. (2019). The costs of macroprudential policy. Journal of International Economics, 118(5), 263–282. https://doi.org/10.1016/j.jinteco.2018.11.011
Saboori-Deilami, M. H., & Bashiri, S. (2021). Core inflation in Iran: A maximum overlap discrete wavelet transformation (MOWT) and Multi Resolution Analysis (MRA). International Journal of Business and Development Studies, 13(2), 143–164. https://doi.org/10.22111/IJBDS.2021.6754
Sharma, N. K., & Sahu, P. (2022). Understanding the performance of core inflation in India. In Studies in international economics and finance: Essays in Honour of Prof. Bandi Kamaiah (pp. 117–144). Springer Singapore. https://doi.org/10.1007/978-981-16-7062-6_7
Shi, T., Qiao, Y., Zhou, Q., & Zhang, J. (2022). The regional differences and random convergence of urban resilience in China. Technological and Economic Development of Economy, 28(4), 979–1002. https://doi.org/10.3846/tede.2022.16721
Stock, J. H., & Watson, M. W. (2016). Core inflation and trend inflation. Review of Economics and Statistics, 98(4), 770–784. https://doi.org/10.1162/REST_a_00608
Stock, J. H., & Watson, M. W. (2020). Slack and cyclically sensitive inflation. Journal of Money, Credit and Banking, 52(S2), 393–428. https://doi.org/10.1111/jmcb.12757
Zheng, Z., Wan, X., & Huang, C. (2023). Inflation and income inequality in a Schumpeterian economy with heterogeneous wealth and skills. Economic Modelling, 121, Article 106193. https://doi.org/10.1016/j.econmod.2023.106193
Afonso, O., & Sequeira, T. (2023). The effect of inflation on wage inequality: A North-South monetary model of endogenous growth with international trade. Journal of Money, Credit and Banking, 55(1), 215–249. https://doi.org/10.1111/jmcb.12914
Ajello, A., Benzoni, L., & Chyruk, O. (2020). Core and “Crust”: Consumer prices and the term structure of interest rates. The Review of Financial Studies, 33(8), 3719–3765. https://doi.org/10.1093/rfs/hhz094
Arango-Castillo, L., Orraca, M. J., & Molina, G. S. (2023). The global component of headline and core inflation in emerging market economies and its ability to improve forecasting performance. Economic Modelling, 120, Article 106121. https://doi.org/10.1016/j.econmod.2022.106121
Aras, S., & Lisboa, P. J. (2022). Explainable inflation forecasts by machine learning models. Expert Systems with Applications, 207, Article 117982. https://doi.org/10.1016/j.eswa.2022.117982
Baqaee, D. (2010). Using wavelets to measure core inflation: The case of New Zealand. The North American Journal of Economics and Finance, 21(3), 241–255. https://doi.org/10.1016/j.najef.2010.03.003
Baxter, M., & King, R. G. (1999). Measuring business cycles: Approximate band-pass filters for economic time series. Review of Economics and Statistics, 81(4), 575–593. https://doi.org/10.1162/003465399558454
Behera, H. K., & Patra, M. D. (2022). Measuring trend inflation in India. Journal of Asian Economics, 80, Article 101474. https://doi.org/10.1016/j.asieco.2022.101474
Bermingham, C. (2010). A critical assessment of existing estimates of U.S. core inflation. Journal of Macroeconomics, 32(4), 993–1007. https://doi.org/10.1016/j.jmacro.2010.05.003
Bernanke, B. S. (2020). The new tools of monetary policy. American Economic Review, 110(4), 943–983. https://doi.org/10.1257/aer.110.4.943
Boivin, J., Giannoni, M. P., & Mihov, I. (2009). Sticky prices and monetary policy: Evidence from disaggregated US data. American Economic Review, 99(1), 350–384. https://doi.org/10.1257/aer.99.1.350
Bolhuis, M. A., Cramer, J. N. L., & Summers, L. H. (2022). Comparing past and present inflation. Review of Finance, 26(5), 1073–1100. https://doi.org/10.1093/rof/rfac047
Carriero, A., Corsello, F., & Marcellino, M. (2022). The global component of inflation volatility. Journal of Applied Econometrics, 37(4), 700–721. https://doi.org/10.1002/jae.2896
Chan, J., Clark, T. E., & Koop, G. (2018). A new model of inflation, trend inflation, and long-run inflation expectations. Journal of Money, Credit and Banking, 50(1), 5–53. https://doi.org/10.1111/jmcb.12452
Clark, T. E. (2001). Comparing measures of core inflation. Economic Review. Federal Reserve Bank of Kansas City, 86(2), 5–32.
Cristadoro, R., Forni, M., Reichlin, L., & Veronese, G. (2005). A core inflation indicator for the Euro area. Journal of Money, Credit and Banking, 37(3), 539–560. https://doi.org/10.1353/mcb.2005.0028
Cruz, C. J. (2022). Reduced macroeconomic volatility after adoption of inflation targeting: Impulses or propagation? International Review of Economics & Finance, 82, 759–770. https://doi.org/10.1016/j.iref.2022.06.005
Dixon, H., Franklin, J., & Millard, S. (2023). Sectoral shocks and monetary policy in the United Kingdom. Oxford Bulletin of Economics and Statistics, 85(4), 805–829. https://doi.org/10.1111/obes.12541
Eckstein, O. (1981). Core inflation. Prentice-Hall.
Elmer, S., & Maag, T. (2009). The persistence of inflation in Switzerland: Evidence from disaggregate data (KOF Working Papers No. 235). https://doi.org/10.2139/ssrn.1437999
Fan, Z., Hu, Y., & Zhang, P. (2022). Measuring China’s core inflation for forecasting purposes: Taking persistence as weight. Empirical Economics, 63, 93–111. https://doi.org/10.1007/s00181-021-02128-x
Fasanya, I. O., & Awodimila, C. P. (2020). Are commodity prices good predictors of inflation? The African Perspective. Resources Policy, 69, Article 101802. https://doi.org/10.1016/j.resourpol.2020.101802
Forbes, K. J. (2019). Inflation dynamics: Dead, dormant, or determined abroad? Brookings Papers on Economic Activity, 2019(2), 257–338. https://doi.org/10.1353/eca.2019.0015
Fulton, C., & Hubrich, K. (2021). Forecasting US inflation in real time. Econometrics, 9(4), Article 36. https://doi.org/10.3390/econometrics9040036
Gamber, E. N., Smith, J. K., & Eftimoiu, R. (2015). The dynamic relationship between core and headline inflation. Journal of Economics and Business, 81, 38–53. https://doi.org/10.1016/j.jeconbus.2015.05.002
Giri, F. (2022). The relationship between headline, core, and energy inflation: A wavelet investigation. Economics Letters, 210, Article 110214. https://doi.org/10.1016/j.econlet.2021.110214
Hanif, M. N., Iqbal, J., Ali, S. H., & Salam, M. A. (2020). Denoised inflation: A new measure of core inflation. Journal of Central Banking Theory and Practice, 9(2), 131–154. https://doi.org/10.2478/jcbtp-2020-0017
Hazell, J., Herreño, J., Nakamura, E., & Steinsson, J. (2022). The slope of the Phillips curve: Evidence from U.S. states. The Quarterly Journal of Economics, 137(3), 1299–1344. https://doi.org/10.1093/qje/qjac010
Hu, Y., & Zhang, P. (2021). Performance of China’s core inflation measures for monetary policy. The Singapore Economic Review, 1, 1–28. https://doi.org/10.1142/S0217590821500168
Huang, F., & Gan, L. (2017). The impacts of China’s urban employee basic medical insurance on healthcare expenditures and health outcomes. Health Economics, 26(2), 149–163. https://doi.org/10.1002/hec.3281
Jiang, J. H., Puzzello, D., & Zhang, C. (2023). Inflation, output, and welfare in the laboratory. European Economic Review, 152, Article 104351. https://doi.org/10.1016/j.euroecorev.2022.104351
Kim, H. H., & Lim, C. S. (2022). Aggregate and disaggregate trend inflation: Case of Korea. https://doi.org/10.2139/ssrn.4018097
Manopimoke, P., & Limjaroenrat, V. (2017). Trend inflation estimates for Thailand from disaggregated data. Economic Modelling, 65, 75–94. https://doi.org/10.1016/j.econmod.2017.05.009
Marques, C. R., Neves, P. D., & Sarmento, L. M. (2003). Evaluating core inflation indicators. Economic Modelling, 20(4), 765–775. https://doi.org/10.1016/S0264-9993(02)00008-1
Matilla-García, M. (2005). A SVAR model for estimating core inflation in the Euro zone. Applied Economics Letters, 12(3), 149–154. https://doi.org/10.1080/1350485042000307125
Mazumder, S. (2014). The sacrifice ratio and core inflation. Journal of Macroeconomics, 40(4), 400–421. https://doi.org/10.1016/j.jmacro.2014.02.002
Omori, Y., Chib, S., Shephard, N., & Nakajima, J. (2007). Stochastic volatility with leverage: Fast and efficient likelihood inference. Journal of Econometrics, 140(2), 425–449. https://doi.org/10.1016/j.jeconom.2006.07.008
Pincheira-Brown, P., Selaive, J., & Nolazco, J. L. (2019). Forecasting inflation in Latin America with core measures. International Journal of Forecasting, 35(3), 1060–1071. https://doi.org/10.1016/j.ijforecast.2019.04.011
Quah, D., & Vahey, S. P. (1995). Measuring core inflation. The Economic Journal, 105(432), 1130–1144. https://doi.org/10.2307/2235408
Richter, B., Schularick, M., & Shim, I. (2019). The costs of macroprudential policy. Journal of International Economics, 118(5), 263–282. https://doi.org/10.1016/j.jinteco.2018.11.011
Saboori-Deilami, M. H., & Bashiri, S. (2021). Core inflation in Iran: A maximum overlap discrete wavelet transformation (MOWT) and Multi Resolution Analysis (MRA). International Journal of Business and Development Studies, 13(2), 143–164. https://doi.org/10.22111/IJBDS.2021.6754
Sharma, N. K., & Sahu, P. (2022). Understanding the performance of core inflation in India. In Studies in international economics and finance: Essays in Honour of Prof. Bandi Kamaiah (pp. 117–144). Springer Singapore. https://doi.org/10.1007/978-981-16-7062-6_7
Shi, T., Qiao, Y., Zhou, Q., & Zhang, J. (2022). The regional differences and random convergence of urban resilience in China. Technological and Economic Development of Economy, 28(4), 979–1002. https://doi.org/10.3846/tede.2022.16721
Stock, J. H., & Watson, M. W. (2016). Core inflation and trend inflation. Review of Economics and Statistics, 98(4), 770–784. https://doi.org/10.1162/REST_a_00608
Stock, J. H., & Watson, M. W. (2020). Slack and cyclically sensitive inflation. Journal of Money, Credit and Banking, 52(S2), 393–428. https://doi.org/10.1111/jmcb.12757
Zheng, Z., Wan, X., & Huang, C. (2023). Inflation and income inequality in a Schumpeterian economy with heterogeneous wealth and skills. Economic Modelling, 121, Article 106193. https://doi.org/10.1016/j.econmod.2023.106193