Name: of the Renminbi.Undoubtedly, the appreciation of the

Name: of the Renminbi.Undoubtedly, the appreciation of the

Name: Lam Lung Wai, William University Number: 2010010998 Essay title: Domestic factors drive inflation, not import prices Inflation means “a persistent tendency for nominal prices to increase and it is measured by the proportional changes over time in some appropriate price index, commonly a consumer price index” (“inflation”, 2009) or in short, “the rise in general level of prices”(Alchian & Kessel, 1962, p.

521). Since most of the goods in Hong Kong, especially food, are imported from the Mainland, the appreciation of the Renminbi will increase the import prices of those goods.Therefore, it is not extraordinary for local citizens to think that the increasing import prices due to currency appreciation is the main driving force for the inflation in Hong Kong happening since 2006.

However, the contribution of import prices to inflation is not significant. The culprit for the inflation in Hong Kong is not the rising prices of imported goods from Mainland China; on the contrary, it is mainly owing to the rentals and asset prices in Hong Kong, which are indirectly triggered by the appreciation of the Renminbi.Undoubtedly, the appreciation of the Renminbi will increase the import prices from Mainland China, but it does not affect the retail prices in Hong Kong to a great extent, since the portion of China’s imports is small. The figure published by the Census and Statistic Department (as cited in Fan, 2010, p. 2) indicates that the amount of retained imports from Mainland China is low when comparing to those from European countries or Asia countries like Japan, and is only slightly higher than that of Singapore and South Korea. It only accounts for 11. % of the total retail imports.

Due to this small percentage, its effect is insignificant. In fact, the increasing imported prices do not appear to be the major source of a district’s inflation. For example, Singapore, which is a country similar to Hong Kong with the high dependence of imports, as an example, “from 2006 till last year, consumer prices rose by 3.

1 per cent annually while import prices fell by 2. 3 per cent” (Au, 2010, para 2). Moreover, the result of Granger causality test used in “To what extent” (2010) indicates hat the linkage between the import prices and consumer price index in Hong Kong over the last decade is insignificant. It also suggests that inflation is “largely explained by domestic factors such as wages and rentals” (“To what extent”, 2010, para 2). This is also supported by the article written by the Bank of China. It claims that in 2006, the inflation rate of Hong Kong was 2% ,but Hong Kong’ s unit import price index from Mainland China only rose 2.

2%, which was only half of the 4. 7% increase of CCPI housing index.Therefore, the housing prices have “a greater weighting in calculating the overall consumer inflation” (Bank of China (Hong Kong), 2007, para 19) and should be the major sources of inflation, together with other domestic factors like rentals. The appreciation of RMB will attract capital inflows to Hong Kong, mainly from the Chinese private investors, which influence inflation to a greater extent compared to import prices. Fan (2010) points out that the market is optimistic for further appreciation of the Renminbi, therefore these expectations will provide incentives for the Chinese investors to pull capital to Hong Kong.

The appreciation also arouses interest for Chinese to buy properties in Hong Kong since it is a decline in asset prices relative to those on Mainland China and hence boost the asset prices in Hong Kong. Another figure from the Census and Statistic Department (as cited in Fan, 2010, p. 2) shows that inflation is closely related to the increasing residential prices since late 1990s and it reflects the fact that housing prices account for 30% of the CPI basket.

Fan also states that it is a tradition in Hong Kong’s property market that the transmission from residential property prices increases to market rental prices comes swiftly.As the rentals increase, retailors then increase the prices of goods in order to cope with it. To sum up, inflation is indirectly derived from the keen investments from the Mainland, which in turn lead to the burgeoning residential prices and rentals, the key determinants of inflation in Hong Kong. The surging import prices caused by appreciation of the Renminbi only has an insignificant impact on the inflation in Hong Kong. The key determinants of the inflation are the domestic factors such as the housing prices and rentals, which are all indirectly imposed by the appreciation of the Renminbi. Word count: 744