Inflation in Asia – particularly China – is a growing problem that could get worse if the US imposes another round of quantitative easing, according to panellists at Bank of America Merrill Lynch's 2011 Global Macro Forum in Hong Kong this week.

A third round of quantitative easing by the US Federal Reserve would “very rapidly give rise to inflation in Asia, central bank tightening and probably underperformance of Asian equities", notes Timothy Bond, head of emerging Asia economics at BoA Merrill.

“What we saw with QE2, after an initial rally, was that commodity prices went up, there were huge inflows into Asia and markets started to worry about Asian inflation,” he notes. “Counter-intuitively, you had the Fed easing but you had more inflation concerns in Asia, which forced central banks to tighten.”

Ashok Bhundia, emerging Asia fixed income strategist at BoA Merrill, concurs that “Asia has been leading the global recovery out the crisis, [but] we do have an inflation problem in the region”.

Inflation has effectively become a tax on consumer income, says Bhundia, and has put pressure on governments in the region to subsidise food and fuel.

China, in particular, has been hard-hit by inflation, with consumer prices up 5.3% in April from a year earlier and food costs rising 11.5%.

Ting Lu, BoA Merrill China economist, predicts that mainland inflation will moderate by mid-year. However, he believes inflation rates in the coming 10 years will be higher on average compared with those over the last decade. 

China’s aging workforce means that the cost of unskilled labour will continue to rise, notes Lu. As such, “the pace of manufacturing cannot be as fast as before”. Combined with higher average inflation rates, “growth, on average, will be lower in the coming 10 years”.

China will be able to keep a lid on further inflationary growth due to strict economic controls by the central government, Lu predicts, noting that "commodity prices have stabilised”.

One spot of relief in China is that dollar depreciation will alleviate pressure from the US over the appreciation of the yuan.

“There's a lot of conflict in Beijing about the pace of renminbi appreciation,” says Lu, who notes that the issue has polarised “a few vested interest groups”.

Chinese exporters and the Ministry of Commerce are against fast-moving appreciation, while “some wish the appreciation would be faster”, says Lu. He points out that the “fair value” of the currency is about 5 to 6 renminbi to the dollar, while the current value is close to about 6.5. The central government, he notes, wants to control the pace.

Lu’s forecast for the mainland this year is generally upbeat. “China's chance for a hard landing will be quite small,” he suggests.