Chinese Lunar New Year and Spring Festival activities in China during January were the first without tight COVID-19 restrictions since the pandemic began in 2020.
Source: Kevin Frayer/Getty Images
China's reopening after three years of on-and-off tight lockdowns to curb the spread of COVID-19 threatens to push inflation in the U.S. and elsewhere higher.
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Economists predict that resurgent demand for commodities from China in 2023 will likely add up to a half percentage point to inflation in most economies. Oil demand alone, for example, will climb nearly 2% year over year to 101.7 million barrels per day, with half of the increase coming directly from China lifting COVID-19 restrictions, according to the International Energy Agency.
The added stress on global prices will complicate central bankers' efforts to tamp down on quickly rising prices just as inflation is showing signs of long-term cooling. And unlike prior slowdowns, when China provided an economic stimulus felt around the globe, the new economic push offers little support to economies ailing from weak growth and supply chain stress.
"The impact of China's reopening would be largely on the demand side, which would contribute to a higher global inflation rate," said Yating Xu, principal economist at S&P Global Market Intelligence.
Inflation drag
Goldman Sachs economists estimate that China's reopening will boost overall inflation in most economies by 0.3 to 0.5 percentage points.
Higher demand, particularly the impact of higher oil demand, could raise overall U.S. inflation by half a percentage point, Joseph Briggs and Devesh Kodnani, economists at Goldman Sachs, wrote in a Feb. 2 note. Core inflation, which excludes volatile energy and food prices, might actually fall by 0.1 percentage point on supply improvements from a reopened Chinese economy.
"Global supplies do look tight, and it does seem like there would be sensitivity if you do get a big demand shock," said Jeremy Schwartz, a senior U.S. economist with Credit Suisse.
The effect on the U.S. economy will be limited by how inflation is measured, Schwartz said. Commodities likely to experience higher demand from a reopened China, including crude oil and industrial metals, comprise a relatively small portion of the measures of U.S. inflation. Energy commodities, which include gasoline and fuel oil, account for less than 3.5% of the consumer price index's total weight.
U.S. consumer prices rose 6.4% year over year in January, a slowdown from the June 2022 peak of 9.1%, according to U.S. government data. The Federal Reserve has pushed benchmark interest rates up by 450 basis points since March 2022 as it seeks to bring inflation closer to 2%.
Market watchers predict that the central bank will raise U.S. rates by at least 50 bps more before the end of 2023, and Fed officials have said they have even more work to do to bring price growth under control.
China's reopening will complicate the central bank's fight against rising prices, even as inflation appears to be responding to the Fed's actions and the unwinding of pandemic-era supply chain clogs.
"At the very least, it slows down the rate at which inflation drops here," said Bart Melek, head of commodity strategy at TD Securities.
Demand jump
As a result of China's reopening in late 2022, Market Intelligence economists raised their forecast for the country's GDP growth in 2023 to 5.2% as consumers spend the excess savings they built up during the pandemic. That would be a sharp increase in growth from 3.0% in 2022 but below the pre-pandemic level of 6%, and not enough to prevent global GDP growth from falling to 2% from 3% in 2022.
China's domestic demand is forecast to increase 5% as a result of the reopening, likely increasing exports from other economies, wrote Briggs and Kodnani, the Goldman Sachs economists.
Demand for goods and services in China is already showing signs of improvement. The Caixin China General Services PMI, which measures activities in the services economy, climbed to 52.9 in January, up from 48.0 in December 2022 and the first increase in the service sector since August 2022. A reading above 50 indicates growth.
The impacts of China's reopening will vary greatly by country, according to an analysis of export data by Alfonso Peccatiello, founder and CEO of The Macro Compass. In Vietnam and Malaysia, where exports to China account for 25% and 24%, respectively, the impact could be substantial.
In the U.S., Canada and the U.K., where exports to China account for just 1% of each of those countries' GDPs, the effect will be less significant.
"The broad impact of a Chinese reopening is a nominal growth boost within China, which you can expect will be somehow exported elsewhere in the world too," Peccatiello said.
Global supply chains
In previous global slowdowns, China has boosted the global recovery, stimulating enormous capital investment, most notably in its real estate sector and domestic infrastructure, sucking in capital goods from around the world. This time, if the U.S. is going to benefit from China's recovery, it will be through demand for goods from Chinese consumers or increased international travel.
"The changed COVID stance won't have much of a favorable impact on global supply chains," said Louis Kuijs, chief Asia economist at S&P Global Ratings. "The impact of China's COVID policy on global supply chains in recent years has been much smaller than has been assumed by observers."
Supply chains have largely recovered from the dislocations during COVID-19 that caused severe shortages and drove prices for goods higher, meaning China's return to normal economic policy will likely have little impact.
"The pandemic controls over the past three years largely hit offline services, and the government policy focused on the recovery of industrial production," said Xu of Market Intelligence.