China's Inflation: External Shocks And Transmission Mechanism

The core issue of inflation is from its transmission mechanism. With the process of global economic and financial integration advancing, the connection between current account and the capital and financial account of all the countries becomes increasingly close; in this case, the worldwide inflation will drive up the price level of one country through the conduction of trade and monetary channels, highlighting increasingly the external shock impact on domestic inflation. Throughout the inflation cycles of China in the new century, the final consumer price represented by CPI increases rapidly all accompanied by the soaring international commodity prices. According to the growth rates and time, the volatility of the external price presents lead and import characteristics, which make the impact of external price factor on domestic price system unavoidable, when discuss the inflation causes under an open environment.This paper studies the transmission mechanism of China’s inflation under the open condition. After the introduction, it systematically analyzes, from theory to practice, from qualitative to quantitative, the external price shocks and the background and formation of China’s inflation as well as the transmission mechanism. In the second chapter, the paper summarizes the theoretical framework of transmission mechanism of the inflation under the opening environment, makes a general analysis of the transmission mechanism of the international inflation and establishes the theoretical basis of international transmission mechanism and transmission channel of the inflation. According to the description of typical facts of the economic and financial environment at home and abroad, starting from the evolution of macro fundamentals in the global perspective, the third chapter analyzes the reality of China and global economy development from different perspectives. And under this background, it offers the transmission mechanism of the imported inflation, which is in line with our actual characteristics. After analyzing commodity markets, currency markets and other aspects, a theoretical model of imported inflation transmission mechanism is established on the framework of traditional IS-LM model as well as combined with China’s actual situation,The chapter Ⅳ and Ⅴ are positive analyses based on the China’s reality. In chapter IV, there has empirically analyzed the impact of external price changes on China’s industries by input-output price model; particularly through simulating the fluctuations in crude oil and food prices. It makes quantitative estimates of its direct impact on the domestic market and effectively gives the specific transmitting path, and quantifies the impact of commodity price changes on the sectors and even the overall inflation, which offers fundamental and clear thinking for policy making.In the study of the price transmission mechanism of China’s middle and lower reaches, on the basis of analysis of different sectors, the paper makes industrial-level analysis of the resonance and feedback relationship of the price indexes and points the biggest feature of the correspondence between the price index and industry. Depending on the quantitative relationship of the resonance and feedback of price indexes, a vector error correction model is built to further validate that there exists top-down conduction in the price of the domestic transmission mechanism and bottom-up reversed transmission mechanism. This not only clarifies the complex relationship of price transmission, but can also deduce the market characteristics of each industry as well as their impact on price transmission. It helps to identify the industrial nodes that prevent the price transmission and is good for policy making.The final conclusion is that the deeper reason for China facing inflationary pressure caused by external shock is the long-term imbalance of China’s economic development including long-term investment overheating, excess liquidity, and current account surplus, which often induce external shock. In addition, the imbalance of economic development presents the supply-demand unbalance, resulting in price rise. Under this condition, the cause of inflation in China cannot be completely attributed to the fluctuations of the external cost factors---external costs shock is just the fuse of inflationary pressures resulting from the accumulation of long-term economic imbalance. Therefore, when using control policies, it is recommended to strengthen the long-term control and countermeasures against inflation, other than an emergency means of conventional monetary policy, so as to radically improve the situation of China’s long-term economic imbalance by using a variety of policy tools and lay the foundation for long-term sustainable development of China’s economy.