Beijing's deflation dilemma: Falling prices signal bigger troubles ahead for China's economy

When he bought an apartment near a good high school in northeast Beijing in 2020, Zhou Fujin expected that renting it out would cover most of his mortgage. But the apartment's value and the rent he is getting have plummeted in the past couple years, straining his family’s finances.

China is experiencing a spell of deflation, or falling prices, that contrasts with inflationary pressures prevailing elsewhere in the world. Cheaper prices can be a blessing for some, but deflation is a symptom of relatively weak demand and stalling economic growth.

Such challenges are the backdrop to the annual session of China's parliament, which begins Wednesday. It's unclear what the ruling Communist Party might do to tackle the problem, though some economists expect Beijing to announce more government spending. Observers also will be watching for changes to the annual economic growth target, which has hovered near 5% for the past two years.

These are broad, long-term problems. Falling housing prices have left many families reluctant to spend, while factories keep churning out goods.

Economy-wide, prices fell in 2023 and 2024, the longest bout of deflation since the 1960s. The gross domestic product deflator – the broadest measure of price changes in an economy – dipped to -0.8% in the last three months of 2024, compared to -0.5% the quarter before, meaning that deflation has intensified.

Tightened purse strings

Deflation is an abstract economic concept but it reflects very concretely in Zhou’s personal balance sheet, as it does for millions of others. Zhou’s apartment, in Beijing’s Miyun district, cost 2 million yuan ($275,000) when he bought it in 2020, and he financed it with an 800,000 yuan ($110,000) bank loan. The rent he charges has fallen from 2,300 yuan ($316) monthly to 1,700 yuan ($234). His monthly mortgage payment is more than 3,000 yuan ($413), and the apartment is now worth only about 1.4 million yuan ($193,000), he says.

Around the time Zhou bought his apartment, the government began cracking down on excess borrowing by real estate developers, pushing the industry into crisis and many property companies into default. The father of two runs a real estate brokerage firm, which has been hemorrhaging money over the past four years. He has since expanded into home decoration services, helping him to break even.

“Given that I work in the real estate sector, my income has been greatly affected,” Zhou told The Associated Press. “My biggest spending is on bank mortgages, my car and my children's education. I've cut other expenditures such as travel. Even my children have realized that money is not easy to earn, and they are willing to spend less.”

Lu Wanyong, who owns a picture framing workshop in Beijing, says he gets only one or two customers a day, down from more than a dozen before the pandemic. Many now prefer to fix broken picture frames rather than buy new ones. Fewer new homeowners come in looking to decorate their apartments.

Lu’s family has burned through its savings and he fears that soon he won’t be able to pay his shop’s 6,000 yuan ($825) rent.

“I am considering shifting to other industries, but the problem is that I am not familiar with any of them. And as a matter of fact, which industry is easy to work in nowadays?” he pondered.

A ‘deflationary spiral’ can signal bigger trouble ahead

Deflation can be harder for governments to tackle than inflation, experts say, because that requires fixing the underlying issues behind it.

In China’s case, it’s a combination of excess capacity – manufactured goods produced in such quantities the market cannot absorb them all – and the reluctance of consumers to spend and businesses to invest, due to concerns about the sluggish economy. Also, the housing crisis has wiped out an estimated $18 trillion of household wealth, according to a Barclays report, on top of job losses due to the COVID-19 pandemic.

“When the real estate market is booming, people believe that they are very rich,” said He-Ling Shi, an associate professor of economics at Australia's Monash University. “If people believe that they’re rich, they tend to spend their income on consumption. But with the decrease in the price of housing in most parts of China, people believe that they’re no longer as rich as before, so … they want to increase their savings and reduce their consumption.”

When prices fall, companies' profits also take a hit. That can spur a so-called “deflationary spiral” of layoffs that further reduce household incomes, leading to even less consumption and potentially to a recession or depression. Fitch Ratings in November warned that deflation is becoming entrenched in China and urged its leaders to adopt policies that can boost demand.

Meanwhile, U.S. President Donald Trump has imposed new 20% tariffs on Chinese exports that are expected to shave up to 1.1 percentage points off China’s GDP growth this year in a “severe scenario” where Chinese exports to the U.S. fall by half, said Erica Tay, director of macro research at Maybank Investment Banking Group.

A sensitive issue for the Communist Party

Deflation is a ticklish issue for China’s leaders, who began cutting interest rates and required mortgage down-payments last fall. They have launched programs to get local governments to buy unsold apartments to rent out as affordable housing and are encouraging banks to lend more money.

But top leaders tend to focus their public comments on the ruling party's accomplishments and avoid directly mentioning deflation, a thorny problem with no quick fixes.

“They try to do their best to avoid the word ‘deflation’ because they believe that will make consumers even more panicked,” Shi said. “If they become more panicked, they will further reduce their consumption and therefore make the situation worse.”

Some economists, including Michael Pettis, a professor of finance at Guanghua School of Management at Peking University, say the economy can only be rebalanced if consumers gain purchasing power. That requires reducing the share of wealth going into unproductive investments.

The government has sought to encourage more spending by issuing vouchers, while shying away from more fundamental economic reforms.

“Economic recovery should be linked to a rise in people’s incomes” said Sun Lijian, professor at the School of Economics at Fudan University. “The government should provide vouchers to help people purchase what they need; this has proven to be an effective way.”

Louis Kuijs, chief Asia economist for S&P Global Ratings, says China needs to address long-term, chronic problems including excess industrial production and inefficient state industries. Revamping health care, pensions and education systems would make people “more comfortable about their financial situation.”

“In the short term, simply anything that increases household incomes will help on the consumption side,” Kuijs said, “but probably more importantly is that structural reform element … and that requires beefing up of the government’s role in health, education and social security.”

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Associated Press researcher Yu Bing contributed to this story.