China: Two days before Thursday's strong inflation figures, the People’s Bank of China surprised with a rate hike. Global markets sold off, but quickly recovered. The effect of conducting monetary policy through short sharp shocks is waning. It looks time for a well-explained, concerted plan to fight rising prices.
Chinese policymakers favour a keep-'em-guessing approach. The first rate hike in three years came out of the blue, and the central bank remains mute on its reasons.Only annual inflation of 3.6 per cent, above the official target, gives a retrospective clue. Similarly, the People's Bank has not explained why it ditched its bewildering practice of moving rates by 27 basis points at a time.
Surprise and silence can be beneficial. One fear is that if investors see monetary policy as a one-way bet, they will pile on hot money. Pronouncements are often made at odd times of day or night, and sometimes before the data that justifies them is released.
In comparison, the US Federal Reserve rarely makes rate decisions outside regular meetings, and tends to hint strongly beforehand.
China’s tactics are risky. Investors can misinterpret: this week’s rate hike was seen by some as a one-off, and by others as the first of many. Policy uncertainty increases companies’ cost of capital. And sometimes surprises are not followed up by action. After the central bank vowed in June to make the exchange rate more flexible, the yuan barely budged for two months, causing anger among some trade partners.
Meanwhile, policy shocks lose their effectiveness over time. While the People’s Bank worries about inflation, the real interest rate on deposits remains negative, and house prices have shown no signs of easing. The market doesn’t believe policy makers will sacrifice growth by tightening dramatically, so they are still driving up asset prices.
There may be good reasons why Chinese policy makers prefer to keep mum. On big questions, the Party may have not formed a consensus. Some decisions may be taken for reasons that might be unpopular with other governments, especially where they impact on China’s export competitiveness. But while mystery has its place in fighting inflation, a clear plan might be a more powerful tool.