The chart below shows that Chinese inflation has been unusually low over the past year due to a fall in food prices. In February, this 'base effect' will drop out and the headline inflation rate is likely to shoot up as a result. If we forecast food and non-food inflation with their average month-on-month inflation rates, inflation should reach 3% in late 2018.  

 

 

However, 3% is the authorities’ inflation target and therefore this should not trigger any monetary policy response. Also, this inflation is being driven by food prices (i.e. supply side factors) as opposed to excessive demand.

 

3% is the authorities’ inflation target and therefore this should not trigger any monetary policy response

 

Admittedly, non-food inflation is unusually high, but this mirrors the rise in producer prices. The latter are now softening and are likely to continue to do so since the bulk of excess capacity reductions are behind us. In addition, growth is expected to slow, further weighing on inflation.

 

 

As to the global implications: Chinese inflation dynamics are driven by food prices, particularly pork prices, and as such are largely a domestic phenomenon. This is confirmed by the lack of correlation between Chinese and US inflation, as shown in the chart above.

 

So the world may well overheat over the next few years, but China is unlikely to be the culprit.

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