China's Deflation Dilemma: A Historical Perspective

China is currently grappling with its longest deflation streak since the Mao era in the 1960s, raising concerns about the sustainability of its economic growth. The consumer price index (CPI), a key indicator of inflation, has been persistently low, with the GDP deflator falling to -1.1% in the first quarter of 2024. This article explores the causes of China's deflationary pressures and the potential solutions to reverse this trend.



Causes of Deflation in China

1. Real Estate Industry Contraction: The significant contraction of the real estate sector, which began in 2021 with a stringent deleveraging policy, has directly reduced GDP growth by about 1.5 percentage points. This downturn has also had extensive indirect effects, including impacts on upstream and downstream enterprises, local government revenue, and consumption, as a high proportion of the population's wealth is tied up in property. This rapid decline in the real estate industry may have lowered China's annual economic growth rate by 3 percentage points or more, contributing to deflationary pressures (Zhu Tian, 2025).
2. Weak Consumption and Investment: The sluggish growth in consumption and investment in China over the past two years has been a significant factor in the low inflation and deflation risks. In 2019, the growth rate of total retail sales of consumer goods and fixed asset investment was 8% and 5.4%, respectively. However, these rates dropped to 3% and 3.3% by January-November 2024. Consumption in the first-tier cities of Beijing, Shanghai, Guangzhou, and Shenzhen was even weaker than the national average, with total retail sales of consumer goods decreasing by 3.1% and 2.8% in Shanghai and Beijing, respectively (Zhu Tian, 2025).
3. Supply and Demand Imbalance: The recovery of China's economy post-pandemic has been characterized by a stronger recovery on the supply side than on the demand side. This imbalance has led to intense competition in consumer products, further contributing to low inflation and deflation risks (Gopinath, 2023).
4. External Factors: External factors, such as the rapid and unexpected decline in inflation levels in developed economies, have also affected the price levels in China. Central banks of the United States and European countries rapidly and intensively adjusted their monetary policies in response to high inflation, which has had an impact on prices in China (Pan Gongsheng, 2023).
5. Time Gap Between Supply and Demand Recovery: The time gap between the recovery of supply and demand has also contributed to the declines in prices. Although the supply of products has been sufficient, demand has been constrained by unstable expectations (Xu Guangjian, 2023).

Unconventional Macroeconomic Policies to Reverse Deflation

To reverse deflation and stimulate growth, China can implement the following unconventional macroeconomic policies:

1. Fiscal Stimulus: Increase public spending and widen the budget deficit to support the economy. This can be targeted towards infrastructure projects, social welfare programs, and tax cuts for households and businesses. (Source: "Beijing has announced an 'even more active' fiscal policy for 2025, focusing on increased public spending and a widening budget deficit.")
2. Monetary Policy Easing: The People's Bank of China (PBOC) can lower interest rates and reduce the reserve requirement ratio (RRR) for banks to encourage lending and increase money supply. This can help to boost aggregate demand and inflation. (Source: "The government has adopted a series of measures, including interest rate cuts, easing for real estate purchases, and raising local government debt limits.")
3. Quantitative Easing (QE): The PBOC can engage in large-scale asset purchases, such as government bonds, to inject liquidity into the financial system and lower long-term interest rates. This can stimulate investment and consumption. (Source: "Maintaining a reasonable level of liquidity is an effective measure to prevent deflation risks.")
4. Exchange Rate Policy: A weaker renminbi (RMB) can make Chinese exports more competitive internationally, boosting export growth and overall economic growth. However, this should be done cautiously to avoid triggering a currency war. (Source: "China's exports remain one of the few bright spots, growing by 6.7% between January and November 2024, exceeding a growth rate of 5% in 2019.")
5. Structural Reforms: Implementing structural reforms, such as reducing barriers to entry for private businesses, promoting competition, and improving the business environment, can enhance productivity and potential output. This can help to sustain long-term growth and inflation. (Source: "The low inflation in China reflects a disinflation process, primarily driven by a stronger recovery on the supply side than on the demand side, coupled with intense competition in consumer products.")
6. Targeted Income Support: Providing direct income support to households, such as cash transfers or subsidies, can boost consumption and help to reverse deflation. (Source: "Many economists believe a more targeted stimulus, particularly for households, would be necessary to trigger a real rebound.")
7. Promoting Domestic Consumption: Encouraging domestic consumption through policies such as tax incentives, subsidies, and improving consumer confidence can help to stimulate growth and reverse deflation. (Source: "Breaking this negative feedback cycle requires unconventional macroeconomic policies.")

These policies should be implemented in a coordinated and targeted manner to maximize their effectiveness in reversing deflation and stimulating growth in China.

In conclusion, China's deflationary pressures are a result of various factors, including the real estate industry contraction, weak consumption and investment, supply and demand imbalance, external factors, and the time gap between supply and demand recovery. To reverse this trend, China can implement unconventional macroeconomic policies such as fiscal stimulus, monetary policy easing, quantitative easing, exchange rate policy, structural reforms, targeted income support, and promoting domestic consumption. By doing so, China can overcome its longest deflation streak since the Mao era and return to a path of sustainable economic growth.