Crude oil broke the US$100 a barrel barrier on the first day of trading in the new year. An Bei of the China Securities Journal looks at the likely impact of soaring oil prices on the Chinese economy

A depreciating US dollar and reduced US oil reserves pushed the price of light crude oil for February delivery to over US$100 a barrel on the first trading day of the new year before edging back to close at a record high US$99.62 a barrel.

Chinese experts agreed rising prices would exert some pressure on China’s economic performance, but most felt it would be minor..

Wang Jian, secretary of the China Macroeconomic Institute under the National Development and Reform Commission (NDRC), said China’s economy inevitably hinged on international oil prices because it was a major oil importer and its ballooning economy was driving its thirst for oil.

According to the China Petroleum and Chemical Industry Association, China imported 46.25% of its oil needs in the first 11 months of last year, compared to 43.23% during the same period of 2006. China’s GDP expanded 11.5% in the first three quarters of 2007.

Deng Yusong, a market economy researcher with the Development Research Center under the State Council, doubted the effect of higher prices would penetrate deeply through the economy. “The most direct impact higher oil prices have on our economy is on higher payments for the imported oil,” he said.

Customs statistics show China imported 147.1 million tons of crude oil from January through November last year, up 14.76% or 18.92 million tons from the same period of the previous year. At the same time, the cost of those imports grew faster, up 18%, or US$10.7 billion, to US$70.1 billion.

Soaring prices for crude oil on the domestic market have exerted huge pressure on the Chinese government to raise centrally-set prices for oil products. On November 1 2007, the government ceded to pressure, raising prices for refined oil products, such as fuel, diesel and kerosene, by US$68.75 (RMB500) per ton. The NDRC said the hikes were aimed at easing pressure on refiners from the worsening gap between prices for refined oil on the domestic market and crude oil on the global market.

The central bank’s Report on Monetary Policy of the Third Quarter 2007 listed the rising price of crude oil as one of the key risk factors exerting inflationary pressure on the national economy. It said rearranging energy prices was necessary to reflect the nation’s competitive advantages and achieve economic balance.

However, Wang Jian of the China Macroeconomic Institute pointed out that consumer price index (CPI) increases were largely driven by food prices, which he said was a structural rise. Figures from the National Bureau of Statistics showed China’s consumer price index (CPI) rose 6.9% year-on-year last November, a ten year high, driven largely by a 18.2% gain in food prices. CPI rose 4.6% year-on-year in the first 11 months of last year, well above the government’s 3% target.

“International oil price hikes haven’t had a significant impact on China’s CPI so far,” Wang said. He did, however, accept that rising international crude oil prices will have an impact on the producer price index (PPI). Taking into account that industrial products can have delayed and cyclical characteristics, continuous international energy price hikes will push up China’s PPI and inflation in the long run, he conceded.

Figures from the National Bureau of Statistics showed China’s PPI gained 4.6% year-on-year in November, boosted by a 6.3% year-on-year increase in prices for raw materials, fuel and electricity. The measure rose 2.9% year-on-year over the first 11 months of last year, with prices for raw materials, fuel and electricity up 4.1%.

Niu Li, an economist in the Economic Prediction Department at the State Information Center, said oil price hikes had different effects on different industries. Upstream businesses like oil and gas explorers raked in fat profits whereas downstream businesses like crude oil refineries reported losses, he said. Furthermore, oil price hikes have imposed additional costs on the farming, fishery and transportation sectors.

Zhou Dadi, a researcher with the NDRC, said the transportation and petrochemical sectors dominated petrol consumption in China. Because they were relatively resistant to price hikes, the effect of soaring crude prices was limited on China’s economy and not far-reaching, he said.

“The US$100 a barrel is a psychological point and once it is broken predictions about international oil prices will be reevaluated,” said Niu, adding that the increasing cost of crude was likely to hold back global economic output and increase the global risk of inflation. The average international price for crude oil was US$72.3 a barrel in 2007, up 9% on US$66.25 a barrel in 2006.

According to the latest East Asia Economic Report by the World Bank, China’s GDP will grow 10.8% in 2008, 0.5 percentage points lower than growth in 2007. The report was optimistic about Asian economies in 2008, despite risk factors such as the fall-out from the subprime mortgage crisis in the US and rising oil prices.

Deng Yusong of the Development Research Center urged the government to set up a pricing mechanism responsive to fluctuations in international energy prices.

This article originally appeared in Chinese in the China Securities Journal on January 3, 2008. The China Perspective takes no responsibility for the accuracy of the original article.