The following article comes from Macro Fans Zhe, written by Lu Zhe
芦哲 S1220523120001
Contact: Zhan Shuo
Related Research Report: [Founder Luzhe] How to Get Out of Low Inflation: China's Historical Enlightenment
Key takeaways
Recently, many places in China have adjusted the charging standards of public utilities such as water, electricity, gas and high-speed rail. We believe that in the current environment of weak aggregate demand, relying only on price increases on the cost side, without the cooperation of a sharp recovery in aggregate demand, cannot form a joint force of price increases, and is not enough to bring about reflation. Because it may be difficult for the cost side to pass on to the downstream, the cost increase caused by the utility price increase can only affect the price briefly and slightly, and after 12 months, the year-on-year price growth rate will still decline as the base effect decreases. In this article, we will measure the full impact of utility price increases on CPI and PPI from the perspective of the input-output table, and explore the conditions under which this impact can be realized.
A Comprehensive Look at Utility Prices: Based on International and Historical Comparisons
From the perspective of international comparison, the price of hydropower in mainland China is not high, the water price is equivalent to 53% of the average price of the 30 countries surveyed by IWA, and the electricity price is equivalent to 59%/81% of the OECD and emerging countries, respectively. According to the 2022 International Water Association (IWA) survey on water prices in 30 countries and regions, when the water used is less than 200 m³, the price of water in mainland China is 4.8 yuan/m³, of which Germany and Japan, which are also major manufacturing countries, are 13.1 yuan and 7.1 yuan/m³ respectively, and the average price in 30 countries is 8.9 yuan/m³, which is 53% of the average price in 30 countries. According to State Grid, the average electricity price for industrial and residential electricity in mainland China is equivalent to about 59% of that of OECD countries, 81% of emerging market countries, and 83% of that of the United States.
Domestically, in the past 20 years, while the economy has developed rapidly, the price increase of public utilities has been low for a long time. In terms of residential prices, from the perspective of increase, water prices have increased by 69% in 20 years> natural gas prices have increased by 38%, > buses by 36%, > electricity prices by 7%. In the past 20 years, the price of industrial water, electricity and gas has increased by about twice that of residential use. From 2004 to 2024, the price of industrial water will rise by 139% (69% of civil water), the price of natural gas will increase by 81% (38% of civil gas), and the price of electricity will increase by 14% (7% of civil electricity).
Historically, and international comparisons suggest that utility price increases are subject to three considerations: rising costs, low prices, and local fiscal pressures.
One is rising costs. In recent years, utility costs have remained high, squeezing corporate profit margins. In the round of global inflation in 2021-2022, the largest increase in cloth oil prices reached 3.4 times, and the price of domestic thermal coal futures rose 2.6 times. The utilities cost margin increased by 4 points from 87.7% at the end of 2020 to 91.7% at the end of 2021, resulting in a decrease in revenue margin from 6.4% to 3.3% over the same period. Utility costs have fallen so far in 2023, but they are still significantly above pre-pandemic levels, and corporate margins remain under pressure.
Second, the price level is low. From the perspective of international and historical comparison, the current price of public utilities in the mainland, especially the price of civil use, is at a low level in the world. Based on this consideration, the Ministry of Water Resources and the National Development and Reform Commission have proposed the idea of increasing the price of hydropower in recent years.
Third, the pressure on local finances has increased. The public utilities sector is more dependent on financial subsidies, and most of them are local authorities, but in the past two years, factors such as the decline in land transfer income have increased the pressure on local finances, and the increase in public utility prices has also helped to reduce local financial pressure.
This round of price increases can be traced back to the cost increase since 2022, and there are 4 types of utility prices that have increased significantly since 2022: first, industrial electricity, which will increase by 7% from November 2021 to March 2023; the second is industrial natural gas, which will increase by 21% from December 2021 to March 2023; the third is bus fares, which will increase by 12% from September 2021 to January 2022; Fourth, civil heating, with a price increase of 24% from December 2021 to February 2022.
How do utility price increases affect CPI and PPI?
From the perspective of direct impact, if the price of water, electricity, gas and high-speed rail both rises by 5%, the direct pull on CPI and PPI will be 0.22 and 0.37 points, and if both prices increase by 10%, the direct pull on CPI and PPI will be 0.43 and 0.73 points. From the perspective of the full impact of the input-output table, when the prices of water, electricity, gas and high-speed rail both rise by 5%, the CPI and PPI will rise by 0.3 and 0.7 points, respectively, and when the price rises by 10%, the CPI and PPI will rise by 0.6 and 1.5 points, respectively.
Why don't utility price increases lead to reflation?
We believe that in the current environment of weak aggregate demand, relying only on price increases on the cost side, without the cooperation of a sharp recovery in aggregate demand, cannot form a joint force of price increases, and is not enough to bring about reflation. Because it may be difficult for the cost side to pass on to the downstream, the cost increase caused by the utility price increase can only affect the price briefly and slightly, and after 12 months, the year-on-year price growth rate will still decline as the base effect decreases.
Specifically, there are three reasons why utility price increases fail to bring about reflation. First, under the weak demand, the price transmission is not smooth, and it is difficult for various industries to form a unified price increase force. When we measure the full impact of utility price increases through the input-output table, an important assumption is that upstream and downstream cost increases can be fully transmitted. In reality, this assumption is difficult to fully realize, and many industries may only have rising costs and no price increases, making it difficult to form a joint force of price increases in various industries.
Second, from a practical point of view, water, gas, and high-speed rail are often partially adjusted, and rarely uniformly increased, which means that a 5% increase in hydropower fuel and high-speed rail fees is an assumption that is difficult to realize. For example, in this round of price increases, among the first-tier cities, Shanghai will raise water prices at the end of 2023, and Guangzhou will pass the price adjustment hearing in May 2024. The pace of price adjustment is staggered, and it is difficult for various regions to form a unified price increase force in the same period, which is reflected in the overall CPI and PPI prices will be more modest. This can be verified by the historical increase in the CPI of hydroelectric fuel and transportation costs, which have never increased by more than 10% annually since 2001 and 5% since 2010.
Third, the CPI growth brought about by the increase in public utility prices is not strong. Taking Beijing and Shanghai as an example, since May 1, 2014, Beijing has implemented a tiered pricing mechanism for residential water use, and the CPI of hydropower fuel in Beijing has increased by 4.6% month-on-month in that month, but since then the month-on-month growth of CPI has quickly returned to the level of close to zero. Similarly, in October 2021, Shanghai raised the price of water for residents in accordance with the Measures for the Administration of Urban Water Supply Prices, and the CPI for hydropower fuel increased by 2.8% month-on-month in the same month, while the month-on-month growth of hydropower fuel CPI fell to 0.0%, -0.3%, and 0.8% in the following three months. In the current round of utility price increases, Shanghai raised residential water prices in January 2024, and the CPI for hydropower fuels increased by 1.2% month-on-month in that month, compared to only 0.0% and -0.1% in February and March. From the year-on-year perspective of CPI, the increase in utility prices can only push up the 12-month year-on-year growth rate, and after 12 months, as the base effect decreases, the impact of price increases will gradually decrease.
Risk Warning: (1) Price changes such as pork and bulk commodities have led to a significant increase in prices; (2) Infrastructure investment has driven the rapid improvement of PPI, and the transmission of price increases has been smoother; (3) The magnitude and scope of utility price increases exceeded expectations.
Table of contents of the text
1 A comprehensive understanding of utility prices: based on international and historical comparisons
1.1 International comparison of hydropower prices
1.2 Historical comparison over the past 20 years
1.3 Three considerations for price increases
2 How Utility Price Increases Affect CPI and PPI: Calculations Based on the Input-Output Table
2.1 Direct impact: weight-based calculations
2.2 Full impact: Calculation based on the price transmission of the input-output model
3 Why utility price increases don't lead to reflation
4 Risk Warning
The text is as follows
The price issue is the core contradiction of the domestic macro economy this year, and we previously released "How to Get Out of Low Inflation: China's Historical Enlightenment", which is the first article in China's reflation series. This time, in response to the recent increase in utility prices in many places, we have launched the second report in a series to explore whether the increase in utility prices will bring about "reflation" in China.
Recently, many places in China have adjusted the charging standards of utilities such as water, electricity, gas and high-speed rail, including the price increase of high-speed rail on some lines and the increase in water prices after the Guangzhou hearing. In our view, utility price increases may not lead to domestic "reflation", and there is still a lack of price increases in the economy at the moment.
1 A comprehensive understanding of utility prices: based on international and historical comparisons
1.1 International comparison of hydropower prices
From the perspective of international comparison, the price of hydropower in mainland China is not high, the water price is equivalent to 53% of the average price of the 30 countries surveyed by IWA, and the electricity price is equivalent to 59%/81% of the OECD and emerging countries, respectively. According to the 2022 International Water Association (IWA) survey on water prices in 30 countries and regions, when the water used is less than 200 m³, the price of water in mainland China is 4.8 yuan/m³, of which Germany and Japan, which are also major manufacturing countries, are 13.1 yuan and 7.1 yuan/m³ respectively, and the average price in 30 countries is 8.9 yuan/m³, which is 53% of the average price in 30 countries. According to State Grid, the average electricity price for industrial and residential electricity in mainland China is equivalent to about 59% of that of OECD countries, 81% of emerging market countries, and 83% of that of the United States.
1.2 Historical comparison over the past 20 years
Domestically, in the past 20 years, while the economy has developed rapidly, the price increase of public utilities has been low for a long time. In terms of civil use, from the perspective of the increase, the price of water > natural gas> bus > electricity price.
Ø The price of civil electricity has increased by 7% in 20 years. In 36 cities, the first-tier price of residential electricity was 48.5 yuan/100 kWh in 2004 and rose to 53 yuan/100 kWh in 2014, an increase of 9.3% in ten years; In 2024, it will be reduced to 52 yuan/100 kWh.
Ø The price of civil water has increased by 69% in 20 years, rising steadily, but the increase is much lower than that of Japan and South Korea at a similar stage of development. The first price of domestic water (excluding sewage treatment fees) in 36 cities was 1.4 yuan/ton in 2004 and rose to 1.94 yuan/ton in 2014, an increase of 39.6% in ten years; In 2024, it will rise to 2.35 yuan/ton, an increase of 20.9% in ten years and a cumulative increase of 69% in 20 years. Compared with Japan and South Korea, the increase in water prices on the mainland is smaller. In the period of rapid economic development in Japan and South Korea before the 90s, water prices experienced a round of rapid increases, and from 1975 to 1995, the price of residential water in Seoul increased by 6.6 times, and in Tokyo by 6 times.
Ø The price of domestic natural gas has increased by 38% in 20 years. The price of the first tranche of civil natural gas was 1.98 yuan/m³ in 2004 and rose to 2.49 yuan/m³ in 2014, an increase of 26.1% in ten years; In 2024, it will be 2.73 yuan/m³, with a ten-year increase of only 9.7% and a cumulative increase of 38% in 20 years.
Ø Bus prices have risen by 36% in 20 years. The average price of the one-ticket system for buses in 36 cities was 1.06 yuan per ticket in 2004 and rose to 1.18 yuan per ticket in 2014, an increase of 11.3%; In 2024, it will be 1.54 yuan / sheet, an increase of 30.8%, and a cumulative increase of 36% in 20 years.
In the past 20 years, the price of industrial water, electricity and gas has increased by about twice that of residential use. From 2004 to 2024, the price of industrial electricity rose by 14% (7% for civil electricity), from 56 yuan/100 kWh to 78.4 yuan/100 kWh from 2004 to 2014, and to 64 yuan/100 kWh in 2024. Over the past 20 years, the price of industrial water has risen by 139% (69% for water) and 81% for natural gas (38%).
1.3 Three considerations for price increases
Historically, and international comparisons suggest that utility price increases are subject to three considerations: rising costs, low prices, and local fiscal pressures.
One is rising costs. In recent years, utility costs have remained high, squeezing corporate profit margins. In the round of global inflation in 2021-2022, the largest increase in cloth oil prices reached 3.4 times, and the price of domestic thermal coal futures rose 2.6 times. The utilities cost margin increased by 4 points from 87.7% at the end of 2020 to 91.7% at the end of 2021, resulting in a decrease in revenue margin from 6.4% to 3.3% over the same period. Utility costs have fallen so far in 2023, but they are still significantly above pre-pandemic levels, and corporate margins remain under pressure.
Second, the price level is low. From the perspective of international and historical comparison, the current price of public utilities in the mainland, especially the price of civil use, is at a low level in the world. Based on this consideration, the Ministry of Water Resources and the National Development and Reform Commission have proposed the idea of increasing the price of hydropower in recent years.
In 2022, the Development Research Center of the Ministry of Water Resources put forward the idea of "promoting the reasonable price adjustment of domestic water for urban residents". The Ministry of Water Resources pointed out: "According to statistics, according to the first-tier water price standard for urban residents in mainland China, the proportion of water expenditure to disposable income in 36 key cities in mainland China in 2020 is between 0.21%~0.67%. The Code for Economic Evaluation of Water Conservancy Construction Projects (SL72-2013) stipulates that when the per capita water expenditure of urban residents accounts for less than 1.5%~3% of disposable income, it is within the acceptable range of water users; When the proportion of water bill expenditure exceeds this range, the market price leverage will be enhanced, and users will take further enhanced water conservation measures. At present, the proportion of water charges in the 36 key cities in the mainland is far less than 1.5%, indicating that the current water price level is far lower than the lower limit of the affordable range of water users. ”
The National Development and Reform Commission (NDRC) also proposed in 2021 to "make electricity prices better reflect the cost of supply". The National Development and Reform Commission (NDRC) pointed out: "For a long time, the mainland has experimented with lower residential electricity prices, and the residential electricity prices are significantly lower than the cost of power supply, because industrial and commercial users bear the corresponding cross-subsidies. Compared with other countries in the world, the mainland residential electricity price is low, and the industrial and commercial electricity price is high. In accordance with the requirements of further deepening the market-oriented reform of electricity prices, the next step is to improve the tiered electricity price system for residents, gradually alleviate the cross-subsidy of electricity prices, make electricity prices better reflect the cost of power supply, restore the commodity attributes of electricity, and form a residential electricity price mechanism that more fully reflects the cost of electricity, supply and demand, and the scarcity of resources. ”
Third, the pressure on local finances has increased. The public utilities sector is more dependent on financial subsidies, and most of them are local authorities, but in the past two years, factors such as the decline in land transfer income have increased the pressure on local finances, and the increase in public utility prices has also helped to reduce local financial pressure.
This round of price increases can be traced back to the cost increase since 2022, and there are 4 types of utility prices that have increased significantly since 2022, one is industrial electricity, which will increase by 7% from November 2021 to March 2023; the second is industrial natural gas, which will increase by 21% from December 2021 to March 2023; the third is bus fares, which will increase by 12% from September 2021 to January 2022; Fourth, civil heating, with a price increase of 24% from December 2021 to February 2022.
In 2022, the CPI for water, electricity, fuel and transportation increased significantly more than the core CPI and services CPI. From 2013 to 2019, the services CPI and core CPI rose by 14.8% and 10.9% respectively, while the price of utilities represented only 2.5% of the CPI for water, electricity and gas, and 7.8% for transportation, both of which lagged significantly behind the overall price increase. After the price increase was launched at the end of 2021, the core CPI and service CPI increased by 0.9% and 0.8% respectively in 2022, but in the CPI, the price of water, electricity and gas projects increased by 2.9%, and the price of transportation increased by 3.1%, which significantly exceeded the price increase.
2 How Utility Price Increases Affect CPI and PPI: Calculations Based on the Input-Output Table
2.1 Direct impact: weight-based calculations
We are mainly concerned about the impact of water, electricity, gas and high-speed rail price increases.
CPI weight: water, electricity and gas account for about 4% of CPI, and high-speed rail accounts for about 0.31%. Water, electricity and gas correspond to the price of hydroelectric fuel under the "residence" sub-item of the CPI, and high-speed rail corresponds to the transportation fee under the sub-item of "transportation and communication". In terms of weighting, hydropower fuels can be extrapolated based on the proportion of consumer spending. According to the per capita consumption expenditure of urban residents, the proportion of hydropower fuel in consumption expenditure in 2022 is 3.9%, and we assume that the proportion of national household consumption is 4%, that is, the weight of hydropower fuel in the corresponding CPI. In terms of "transportation costs", we use the multiple linear regression method to estimate transportation, vehicles, fuels used in transportation, transportation use and maintenance, and transportation expenses in the annual CPI from 2016 to 2020. The results show that the weight of "transportation expenses" in the mainland CPI is about 2.3%. The economic sectors related to "transportation expenses" include railway passenger transport, urban public transport and road passenger transport, water passenger transport, air passenger transport, and railway passenger transport to which high-speed rail belongs. According to the 2020 input-output table, rail passenger transport accounted for 16.7% of the four types of passenger transport, while high-speed rail accounted for 70.7% of rail passenger traffic in the same year. Considering that high-speed rail fares are generally higher than ordinary rail passenger transportation, we assume that 80% of residents' final demand for rail passenger transportation is high-speed rail. As a result, high-speed rail spending accounts for about 0.31% (2.3% × 16.7% ×80%) of the CPI.
PPI weight: Utilities account for about 7.3%. According to the explanation of the National Bureau of Statistics on the determination of the weights of each industry in the PPI, the weights of the sub-categories and industries above the producer price index are derived from the industrial sales output value of different industries in industrial statistics, and the weights of the basic classification are derived from the independent survey of the product weights of industrial enterprises. The industrial sales output value is an annual data, which comes from the China Industrial Statistical Yearbook, and has been updated since 2016. Considering that the weight of PPI is adjusted every 5 years, and 2021 to 2025 is a cycle, this article uses the weight calculated by operating income in 2021 for subsequent analysis. According to the proportion of operating income of each sector in the total operating income of industry, the weight of water (production and supply of water), electricity (production and supply of electricity and heat), and gas (production and supply of gas) in the PPI is 0.3%, 6.0% and 1.0%, respectively, for a total of 7.3%. Rail passenger transport, to which high-speed rail belongs, does not belong to the industrial sector, so the price of high-speed rail does not account for weight in the PPI composition.
From the perspective of direct impact, if the price of water, electricity, gas and high-speed rail both rises by 5%, the direct pull on CPI and PPI will be 0.22 and 0.37 points, and if both prices increase by 10%, the direct pull on CPI and PPI will be 0.43 and 0.73 points.
2.2 Full impact: Calculation based on the price transmission of the input-output model
Assuming that the price change comes entirely from the physical consumption cost, and the price can be fully transmitted upstream and downstream, the input-output model can be used to measure the full impact of the price change. The input-output model can be used to measure the impact of price changes of one or several products on the prices of other products, and to estimate the impact on the overall price level. This calculation is based on the assumption that changes in product prices are caused by changes in material consumption in costs, and can be fully transmitted upstream and downstream, without considering changes in depreciation, workers' compensation, net production tax, and operating surplus, and do not consider the company's cost reduction measures and changes in supply and demand.
The input-output model measures the impact of price changes in two parts: direct and indirect. According to the "Multi-product Price Influence Model and Its Application Research" published by Liao Mingqiu and Wang Mingzhe, the input-output price model can be derived according to the following process: assuming that there are n kinds of products in the national economy, if the price of K products changes (ΔPK), then the other n-1 products are affected by the price of K products, and their price changes are ΔPj(j≠K). ΔPj is composed of two parts: one is the direct impact, ΔPK×aKj, aKJ represents the direct consumption coefficient of the production of j product to K product, and the multiplication of the two is the direct impact of the price change of K product on the price of j product. The second is indirect influence, ∑ ΔPi×aij(i≠K), ΔPi is the price change of product i, aij represents the direct consumption coefficient of product j production on product i, and the two are multiplied and then added to all i(i≠K) product sectors as indirect impact, that is, the impact of price changes of product K is transmitted to product j through product i.
By extending the input-output price model of a single product to multiple products, we measure the impact of rising prices of water, electricity, gas and high-speed rail on CPI and PPI. It should be noted that when calculating the change in CPI based on the input-output table, due to the difference in accounting methods (survey method and non-survey method) and accounting caliber (product price and sector price), it is not completely consistent with the definition of statistical indicators, and the weight of the price impact of each sector is not consistent with the actual statistics of CPI, which mainly reflects the change in the general price level. In the input-output price model, the change in CPI is calculated as the sum of the product of the price change of each sector and its share in the final demand of residents, and the PPI is the sum of the product of the price change of each industrial sector and the proportion of its operating income in the total industrial operating income.
When the price of water, electricity, gas and high-speed rail rises by 5%, the full impact on CPI and PPI is an increase of 0.3 and 0.7 points. It is divided into two cases: simultaneous price increase and separate price increase for various utility services. At the same time, when the prices of water (water production and supply), electricity (electricity and heat production and supply), gas (gas production and supply), and high-speed rail (railway passenger transportation) all increase by 5%, the CPI and PPI will rise by 0.3 and 0.7 points, respectively, and when the price increases by 10%, the CPI and PPI will rise by 0.6 and 1.5 points, respectively. When water, electricity, gas, and high-speed rail prices rise by 10% respectively, electricity prices (electric heating industry) will drive CPI and PPI up by 0.45 and 1.3 percentage points respectively, while high-speed rail prices can only pull CPI up by 0.03 percentage points.
3 Why utility price increases don't lead to reflation
We believe that in the current environment of weak aggregate demand, relying only on price increases on the cost side, without the cooperation of a sharp recovery in aggregate demand, cannot form a joint force of price increases, and is not enough to bring about reflation. Because it may be difficult for the cost side to pass on to the downstream, the cost increase caused by the utility price increase can only affect the price briefly and slightly, and after 12 months, the year-on-year price growth rate will still decline as the base effect decreases.
Specifically, there are three reasons why utility price increases fail to bring about reflation. First, under the weak demand, the price transmission is not smooth, and it is difficult to form a unified price increase force. When we measure the full impact of utility price increases through the input-output table, an important assumption is that upstream and downstream cost increases can be fully transmitted. In reality, this assumption is difficult to fully realize, and many industries may have a situation where costs have risen without price increases.
In Chart 18, we list the industries where a 5% price increase in water, electricity, gas and high-speed rail has a price impact of more than 0.5%. The biggest impact is on urban buses, but their prices are determined by regulatory policies and cannot rise in tandem with cost changes, so the price increase may not be realized. In the remaining industries, the cost of building materials such as cement and glass is also greatly affected by the increase in utility prices. However, the price of these products is more determined by the real estate cycle, and when the real estate cycle is down, the downstream demand is weak, and the cost rise is digested by the enterprise itself, and the cost increase cannot be transmitted.
Therefore, if other industries cannot form a unified price increase force, the overall increase in utility prices of 5% may not reach 0.3 and 0.7 points on CPI and PPI, and may only have a direct pull effect, that is, CPI and PPI will rise by 0.22 and 0.37 points respectively.
Second, from a practical point of view, water, gas, and high-speed rail are often partially adjusted, and rarely uniformly increased, which means that a 5% increase in hydropower fuel and high-speed rail fees is an assumption that is difficult to realize. For example, in this round of price increases, among the first-tier cities, Shanghai will raise water prices at the end of 2023, and Guangzhou will pass the price adjustment hearing in May 2024. The pace of price adjustment is staggered, and it is difficult for various regions to form a unified price increase force in the same period, which is reflected in the overall CPI and PPI prices will be more modest. This can be verified by the historical increase in the CPI of hydroelectric fuel and transportation costs, which have never increased by more than 10% annually since 2001 and 5% since 2010.
Third, the CPI growth brought about by the increase in public utility prices is not strong. Taking Beijing and Shanghai as an example, since May 1, 2014, Beijing has implemented a tiered pricing mechanism for residential water use, and the CPI of hydropower fuel in Beijing has increased by 4.6% month-on-month in that month, but since then the month-on-month growth of CPI has quickly returned to the level of close to zero. Similarly, in October 2021, Shanghai raised the price of water for residents in accordance with the Measures for the Administration of Urban Water Supply Prices, and the CPI for hydropower fuel increased by 2.8% month-on-month in the same month, while the month-on-month growth of hydropower fuel CPI fell to 0.0%, -0.3%, and 0.8% in the following three months. In the current round of utility price increases, Shanghai raised residential water prices in January 2024, and the CPI for hydropower fuels increased by 1.2% month-on-month in that month, compared to only 0.0% and -0.1% in February and March. From the year-on-year perspective of CPI, the increase in utility prices can only push up the 12-month year-on-year growth rate, and after 12 months, as the base effect decreases, the impact of price increases will gradually decrease.
4. Risk Warning
(1) Significant price increases due to price changes in pork and commodities;
(2) Infrastructure investment has driven the rapid improvement of PPI, and the transmission of price increases has been smoother;
(3) The magnitude and scope of utility price increases exceeded expectations.