Inflation has once again become a serious problem in China. While the government’s quick and effective response to the Wenchuan earthquake reassured Chinese citizens and helped consolidate support for the government and the current administration, inflation presents the opposite image of the regime. In China, inflation causes political failure. It contributes to a subjective feeling of instability and may also lead to erosion in living standards for some segments of society. Historically, inflation in China is strongly associated with a government that is losing control and with the prospect of social disorder. To fight inflation, the government has three potential weapons: tighter monetary and fiscal policy; RMB appreciation; and price controls. Facing enormous economic uncertainty and unprecedented natural disasters, the government has vacillated among these three approaches. There is no immediate prospect of breaking out of this triangular trap.

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