Inflation from China?

I have been reading a few comments lately about how inflation in China, running quite high in the 7% range, is not causing inflation in the US. Paul Krugman made this point and points to a WSJ commentary that does the same on his blog. The reasoning is that our total imports from China account for only 2% of our GDP, so it would take astronomical inflation in China to have an impact on inflation in the US. Unfortunately I think this analysis misses the point.

What is causing inflation is primarily the cost of raw materials such as oil, copper, metal, etc. These costs are rising because of the incremental demand from China and other developing countries for raw materials for both production and infrastructure development. The same is true for food – as incomes are raised around the globe the demand for food increases. These trends are, of course, exacerbated by the decline in the value of the dollar that drives up the price of imported materials such as oil, but without that decline we would likely be in a much worse economic condition right now than we are. I have not done any specific research on this topic, but I have heard many executives from the various mining and metal companies come on CNBC and explain that the demand from China is one quarter to one third of their total demand and until they can gear up to meet this demand prices will be higher. Others imply that speculators may be driving up prices as well, perhaps even creating the next bubble – commodities.

So in the end, inflation in China is not causing inflation in the US, but this analysis misses the point. The point is that because of the increase in demand for raw materials from China and other developing countries (and perhaps some speculation) the prices of materials for everyone, including China and the US, are going up and that is causing inflation in both countries. Perhaps some of the commentators can do a bit of numerical research on this in their spare time. If I find some perhaps I will.

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