Deflationary pressures from China’s slowing economy are starting to reverberate through global markets, particularly affecting the United States and the euro zone through lower commodity prices, Morgan Stanley said on Monday.
China’s prolonged deflation, the deepest since the 1990s, is exacerbating overcapacity problems despite recent policy measures aimed at stabilizing the economy, the investment banking firm said in its latest note, “China’s Deflationary Implications.”
The spillover effects were most pronounced in commodity sectors, particularly clothing and electronics, which led to a slight decline in core inflation rates of around 0.1% in the US and the euro area, driven primarily by a large decline in commodity inflation of around 0.5%, Morgan Stanley noted.
“While the overall impact remains relatively modest, it provides central banks such as the Fed and the ECB with additional freedom to consider monetary easing measures throughout the year,” Morgan Stanley said.
Analysts at Morgan Stanley noted that China’s dominance of global goods exports is reinforcing its role as a source of deflation. They added that this has broader implications for sectors that rely on imported goods, such as the U.S. apparel market, where components of the consumer price index could see declines of up to 0.3% due to lower import prices from China.
Looking ahead, Morgan Stanley expects China’s inflation outlook to remain challenging, and forecasts a slow recovery with the producer price index expected to exit deflationary territory only by the second half of 2025.
The cautious optimism is in line with expectations that China’s nominal GDP growth will remain weak, staying below 5% over the next few years, according to Morgan Stanley.
Morgan Stanley economists warn that persistent deflationary pressures could persist unless major shifts toward consumption-led growth strategies are implemented in Chinese economic policy despite efforts to stimulate manufacturing investment.