Introduction

Nowadays, China is one of the most economic growth countries of the world. Even Chinas
economic growth increase, the inflation is also happening in China. According to the National
Bureau of Statistics, Chinas inflation rate is slightly increasing to 2.0 percent in November. The
first time that the consumer price index increase is August. In the survey of 12 economists by
Dow Jones Newswires, the result compares with a median 2.1 percent forecast for November.
Moreover, according to the data show, product prices which measure the cost of goods as they
leave factories declined 2.2 percent year-on-year. Falling for the ninth straight month. Then, the
producer prices fell again 2.8 percent in October.
In the third quarter until the end of September, the economic growth of China is 7.4 percent and
it is the weakest performance in more than three years and the seventh straight quarter of slowing
expansion. However, recent numbers, including manufacturing, trade and industrial output, have
to lead to optimism among economists that the worlds second biggest economy is rebounding.
However, inflation rose 2.0 percent year-on-year in August and fell again to 1.9 per in September
then rose.
Historically, from 1994 until 2012, China inflation rate averaged 4.2 percent reaching an all time
high of 27.7 percent in October of 1994 and a record low of -2.2 percent in March 1999. In
China, the most important components of the CPI basket are Food and Residence. Recreation,
Education and Culture Articles account for 13.8 percent; Transportation and Communication for
10 percent, Healthcare and Personal Articles for 9.6 percent, Clothing for 8.5 percent;
Households Facilities, Articles and Services for 5.6 percent; Tobacco, Liquor and Articles for the
remaining 3.5 percent. The CPI basket is reviewed every five year based on household surveys.
(Trading Economic, 2012 ).

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Moreover, consumer prices rose 1.9% from a year earlier. That was down from a rate of 2% in
August. There have been calls for Beijing to ease its monetary policy to boost domestic demand
and spur growth amid a global economic slowdown. China's economic growth slowed to a threeyear low in the second quarter. The weaker growth was inevitable at some stage. Part of the
dilemma many observers face is to get used to the idea that China will not grow at 10% for the
next decade as it is done for the last three decades, but it's still going to grow very strongly and it
is still the most important thing for us and everybody else in terms of our export potential. (BBC
news, 2012)
China's economy has been hurt by falling demand for its exports and a slowdown in investment
in the country. Demand for its exports has been hit by continuing economic problems in key
markets such as the US and Europe. Despite the fact that exports rose by 9.9% in September
from a year earlier, which was more than had been expected, the export sector's growth continues
to remain under pressure. As a result, China has been keen to boost its domestic consumption in
a bid to rebalance its economy and sustain growth. This inflation picture remains supportive for
further policy easing to support the growth recovery, which is still the top priority for now. (BBC
news, 2012).

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Economic Challenges
Inflation means a sustained increase taken together or general price level in an economy.
Moreover, inflation is a steady increase in the prices of goods and services in a country, usually
measured in terms of a specific annual percentage. This decreases the purchasing power of
currency by reducing the amount of goods or services a person can get for the same amount of
money. (Wise geek, 2012).There is three causes of inflation. The first cause is called cost-push
inflation. It starts while demand stays the same, but the supply of labor is not enough to meet
demand. Then, it can create wage inflation.( Ameadeo, 2012).
Moreover, it also occurs when business respond to rising production costs, by rising prices in
order to maintain their profit margins. There are many reasons to raise the costs. They are rising
imported raw material costs, rising labor costs and higher indirect taxes imposed by government.
Rising imported raw materials costs is caused by inflation in countries that are heavily dependent
on exports of these commodities or alternatively by a fall in the value of the pound in the foreign
exchange markets which increases the UK price of imported inputs. A good example of costpush inflation was the decision by British Gas and other energy suppliers to raise substantially
the prices for gas and electricity that it charges to domestic and industrial consumers at various
points during 2005 and 2006.
The second one which is rising labor costs is caused by wage increases, which exceed any
improvement in productivity. This cause is important in those industries, which are laborintensive. Firms may decide not pass these higher costs onto their customers who they may be
able to achieve some cost savings in other areas of business but in the long run, wage inflation
tends to move closely with price inflation because there are limits to the extent to which any
business can absorb higher wage expenses.(Macroeconomics,2012). In the past, inflation in
prices generally led to wage inflation, so that companies could retain good workers. However,
competition from technological alternatives and lower income courtiers means that wages have
not kept up with prices.
The last one for costs push inflation is higher indirect taxes imposed by the government because
higher prices combined with stagnment wages means your standers of living has decreased. For
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example, a rise in the rate of excise duty on alcohol and cigarettes, an increase in fuel duties or
perhaps a rise in the standard rate of Value Added Tax or an extension to the range of products to
which VAT is applied. These taxes are levied on producers, suppliers, who, depending on the
price elasticity of demand and supply for their products, can opt to pass on the burden of the tax
onto consumers. For example, if the government were to choose to levy a new tax on aviation
fuel, then this would contribute to a rise in cost-push inflation.
Therefore, cost-push inflation can be illustrated by an inward shift of the short run aggregate
supply curve. This is shown in the diagram below. Ceteris paribus, a fall in SRAS causes a
contraction of real national output together with a rise in the general level of prices.

(Macroeconomics,2012).

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The second cause of inflation, demand-pull inflation, occurs when demand for a good or service
rises, but supply stays the same. Buyers become willing to pay more to satisfy their demand.
Demand-pull inflation can be accompanied by irrational exuberance. Moreover, Demand-pull
inflation is likely when there is full employment of resources and when SRAS is inelastic. In
these circumstances an increase in AD will lead to an increase in prices. AD might rise for a
number of reasons. Some occur together at the same moment of the economic cycle. Firstly, a
depreciation of the exchange rate has the effect of increasing the price of imports and reduces the
foreign price of UK exports. If consumers buy fewer imports, while foreigners buy more exports,
AD will rise. If the economy is already at full employment, prices are pulled upwards. The one
more is a reduction in direct or indirect taxation. If direct taxes are reduced, consumers have
more real disposable income causing demand to rise. A reduction in indirect taxes will mean that
a given amount of income will now buy a greater real volume of goods and services. Both factors
can take aggregate demand and real GDP higher and beyond potential GDP.
The third reasons, the rapid growth of the money supply, perhaps as a consequence of increased
bank and building society borrowing if interest rates are low. Monetarist economists believe that
the root causes of inflation are monetary in particular when the monetary authorities permit an
excessive growth of the supply of money in circulation beyond that needed to finance the volume
of transactions produced in the economy. Another reason is rising consumer confidence and an
increase in the rate of growth of house prices which would lead to an increase in total household
demand for goods and services. Then, the last one is faster economic growth in other countries,
which is providing a boost to UK exports overseas. (Macroeconomics,2012).
The effects of an increase in AD on the price level can be shown in below diagrams. Higher
prices following an increase in demand lead to higher output and profits for those business where
demand is growing. The impact on prices is greatest when SRAS is inelastic. The
macroeconomic equilibrium following an outward shift of AD takes the economy beyond the
equilibrium at potential GDP. This causes an inflationary gap to appear which then triggers
higher wage and other factor costs. The effect of this is to cause an inward shift of SRAS taking
real national output back towards a macroeconomic equilibrium at Yfc but with the general price
level higher than it was before.

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(Macroeconomics,2012).
The last cause of inflation, which is expansion of the money that is the money supply, is not just
cash, but also credit, loans and mortgages. When loans are cheap, then there will be too much
money chasing too few goods, creating inflation. The prices of just about everything will
increase, even though neither demand nor supply has changed. (Amadeo, 2012). It causes
overexpansion of the money supply. That is when a glut of capital in the capital market chases
too few opportunities. It is often a result of expansive fiscal or monetary policy, creating too
much liquidity in the form of dollars or credit.
Government Policies
For the inflationary economy, governments adopt the contractionary momentary policy.
Therefore, central bank will reduce money spending by increasing required reserve ratio and
discount rate or make issue bonds. Moreover, government also can decrease excess reserve of
commercial banks. According to the money market, nominal interest rate will increase and also
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interest rate for all loans will increase but consumption and investment will decrease. That is
why aggregate demand also will decrease. There is a diagram, which shows the money market.

Nomin
al i/r

Ms
2

Ms
1

Money Market

E2

R
2
R
1

E1
Md

Q2

Qty of $

Q1

Similarly, for the contractionary fiscal policy, government spending will decrease and tax will
increase. Moreover, for domestic effect, aggregate demand, GDP, households income, money
demand and nominal interest rate will decrease. However, there will be happened crowding-out
effect.
Another government policy, a supply-side policy, is a set of government policies to strengthen
the production capabilities of the firms. Government coordinates and subsidies the training of
workers and provides financial grants to firm to conduct research and development activities.
Moreover, they also provide lower-cost loans to encourage firms to adopt new capital and
technology. Therefore, productivity of the firms will increase and average cost of production will
decrease. Then, potential GDP and AD for goods and services will be increase and firms will get
more profits. Moreover, export will increase but tax will also increase.
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Conclusion
To manage inflation, the government can change the way business work and influence the
economy either by passing laws, or by changing its own spending or taxes. Government role in
economy of the country is very important. Government can control the inflation by adjusting the
taxes and by using some rules and regulations. In addition, inflation can happen a period and it
will appear when the economy growth increase. At that time, government needs to adjust
dutifully. There is good news and bad news for China's economy heading into 2013. A gauge of
the country's manufacturing sector highland analysts are now estimating that growth will not
slow as much as previously expected. However, as the economy grows, some are being left out,
as 200 million people remain below the poverty line, according to government statistics.

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References
Macroeconomics. 2012.Tutor2u, Available at: http://www.tutor2u.net/economics/revisionnotes/a2-macro-causes-of-inflation.html [Accessed 28 Dec. 2012].
What causes inflation? 2012. Wise Geek, Available at: http://www.wisegeek.com/what-causesinflation.htm [Accessed 28 Dec. 2012].
Amadeo, K.2012. What are the causes of inflation? US Economy, Available at:
http://useconomy.about.com/od/inflationfaq/f/Causes-Of-Inflation.htm [Accessed 28 Dec. 2012].
China inflation rate dips to 1.9% raising easing hopes.2012.BBC news, Available at:
http://www.bbc.co.uk/news/business-19944062 [Accessed 28 Dec. 2012].
China Inflation Rate.2012. Trading Economic, Available at:
http://www.tradingeconomics.com/china/inflation-cpi [Accessed 28 Dec. 2012].

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