While the West fights inflation, prices in China are falling as its growing debt bubble suffocates the economy

(Originally published July 11 in “What in the World“) With its property sector in a funk, local governments on the brink of insolvency, and its consumers battening down, China is on the brink of a deflationary spiral.

The National Bureau of Statistics reported Monday that the country’s producer price index fell 5.4% in June from the same month of 2022, the ninth straight month of declines and the steepest since December 2015. The consumer price index, meanwhile, was flat, the lowest since February 2021.

Authorities are stepping in with more relief for the ailing property sector. The People’s Bank of China and the National Financial Regulatory Administration issued a joint statement granting a loan extension for real-estate developers. Loans due by next May will be given a one-year extension for repayment. They also said they would encourage further lending to developers by easing a requirement that commercial banks classify any project-based special loans made to developers before the end of 2024 as “high-risk.” That theoretically allows banks to charge a lower interest rate and lower the amount of capital they need to set aside against the risk of the developer defaulting.

China’s economic malaise has been festering now since at least 2015, when it began what appears to have been a quiet bailout of local governments by encouraging them to shift off-balance sheet debts to bonds, many of which were bought by China’s banks and newly created asset management companies. But almost a decade later, both those governments and the property sector remain bloated with debts and in a chronic state of near insolvency.

China’s long Covid lockdown, while it undoubtedly saved millions of lives, also crippled consumer sentiment. Housing sales fell in June. And with youth unemployment now at 20%, young people are putting off major life decisions. Last year the number of couples registering marriages fell for the ninth straight year to the lowest since the government began keeping records in 1986.

Economists predict the PBoC will be forced to cut interest rates further, a move that may stimulate growth but put further downward pressure on the renminbi. Some economists also predict tax breaks for strategically important industries, particularly those targeted by the U.S., such as cloud computing and semiconductors.