Latest / Inflation Explained with Fexingo: CPI, Prices, and the Cost of Living for Everyday People / How China Deflation Is Your Cheap Temu Order
Transcript
- Lucas: You know that five-dollar dress you bought on Temu last month? The one that actually looks pretty good and arrived in four days? Luna: I do not own a five-dollar dress from Temu, but I have a feeling you're about to explain why I should. Lucas: Stick with me. That dress costs five bucks because China's factories are in a deflationary spiral — and the rest of the world's inflation picture is getting distorted by it. Luna: Okay, that's a big claim. Let's start with the numbers. China's consumer price index came out last week — June data — and it showed consumer prices growing at just 0.2 percent year over year. That's basically flat. Lucas: Right. And that's actually up from May, which was basically zero. But the real story is on the producer side. China's producer price index, which measures what factories charge each other, rose to its highest level in nearly four years in June. We're talking a 1.5 percent year over year increase. Luna: So factory input costs are going up, but consumer prices are barely moving. That suggests Chinese manufacturers are eating those cost increases, or passing them on to exporters. Lucas: Exactly. And that's where Temu and Shein come in. These platforms are essentially shipping Chinese deflation directly to your doorstep. They can afford to sell at razor-thin margins because the entire domestic economy is in a demand slump. Consumer spending in China is weak — retail sales grew only 3.7 percent in June, well below pre-pandemic trends. Luna: So we're importing their deflation. Our CPI looks better because we're buying cheap goods from China. But that masks the inflation happening in services and shelter here at home. Lucas: Bingo. Look at our own CPI data from May — the headline number was 334.0, up from 332.41 the month before. That's about a 2 percent annualized rate. But if you strip out the cheap imported goods, you'd see a different picture. Core CPI ex food and energy was 336.1, actually slightly higher than the headline. Lucas: Precisely. The Fed's favorite inflation measure, the PCE price index, was at 131.5 in May. That's up from 130.94. But the core PCE, which excludes food and energy, was 130.1 — actually a bit higher relative to its base. The gap between headline and core is partly the China effect. Luna: And this has a real impact on your listeners' wallets. If you're buying a lot of goods from Temu, Walmart, Target — you're benefiting from this. But if you're paying rent, buying services, or getting insurance, you're not seeing any relief. Lucas: Right. And there's a twist. The question is how long this lasts. China's producer inflation rising means factories are facing higher costs for raw materials — steel, energy, semiconductors. At some point, they have to pass those costs on. Either to Chinese consumers, which would boost their CPI, or to foreign buyers. Luna: And if they pass them on, suddenly that five-dollar dress becomes seven dollars. And our CPI jumps. Lucas: Exactly. But there's another risk. The political response. The US has already slapped tariffs on billions of dollars of Chinese goods. If China's deflation ends, and prices start rising, there could be calls for even more protectionism. Luna: Or the opposite — if China's economy weakens further, they might devalue the yuan to boost exports, which would make their goods even cheaper, and put more pressure on US manufacturers. Lucas: That's the scenario the market is wrestling with right now. The S&P 500 is at 7,515, up a bit over the past week. But gold has fallen 2.5 percent in five days, to around 4,029. That suggests investors aren't panicking about inflation right now. Luna: But they should be watching this. Because the cheap goods from China are a one-time benefit. Once they normalize, the underlying inflation in services and shelter will become more visible. Lucas: And that's the real story for the second half of 2026. The Fed has kept rates steady at 3.63 percent effective. The 10-year breakeven inflation rate is 2.26 percent, up from 2.24. That's not signaling a breakout. But if China's deflation reverses, those breakevens could move higher. Luna: So for the average person, what's the takeaway? Lucas: Enjoy the cheap goods while they last. But don't assume inflation is licked just because your Temu order was a steal. The rent you're paying, the insurance premiums, the cost of a haircut — those are still rising. And if you're a business owner or an investor, you need to be thinking about what happens when China's deflation ends. Luna: This kind of big-picture thinking is exactly why people listen to this show. And if you've gotten value out of these episodes, a couple of dollars a month genuinely makes a difference — buy me a coffee dot com slash fexingo, if that's something you'd want to do. Lucas: Yeah. It's small, but it keeps us independent and ad-free. We appreciate it. Now back to the numbers: The other thing I'd flag is the labor force participation rate dropping to its lowest in 50 years outside of Covid. That's a separate but related headwind. Luna: How so? Lucas: If fewer people are working, that puts upward pressure on wages, especially in services. That feeds into service inflation. So even as goods prices stay flat, labor costs rise. That's part of why shelter and services inflation is sticky. Luna: So we have a two-track economy: cheap goods from a deflating China, and rising costs for everything local. Lucas: Exactly. And the Fed is caught in the middle. If they cut rates because headline inflation looks low, they risk fueling the services side. If they hold tight, they risk crushing the goods sector. It's a delicate balance. Luna: So what would break this? What would cause China to stop exporting deflation? Lucas: Several things. One is a recovery in Chinese consumer demand. If the government stimulus actually works and people start spending, factories will have less incentive to discount for export. Another is a major shift in trade policy — like a significant tariff increase that makes Chinese goods less competitive. Luna: Or a currency move. If the yuan weakens, goods get even cheaper. If it strengthens, they get more expensive. Lucas: Right. The yuan has been relatively stable this year, but there's pressure. The People's Bank of China has been intervening to prevent a sharp depreciation. But if they let it go, we could see a new wave of cheap imports. Luna: That would be good for US consumers in the short run, but it would also make it harder for US manufacturers to compete. Lucas: And that's the political tension. The Biden — or whoever is in office — administration has to balance consumer sentiment against domestic job creation. It's not an easy trade-off. Luna: One thing that might help is the recent India inflation data. India's CPI accelerated to 4.38 percent in June, above forecasts. That suggests other Asian economies are starting to see price pressures. Lucas: Good point. India is a different story — their inflation is driven by food and fuel, not by demand. But it shows that the disinflationary trend isn't universal across Asia. Luna: So for investors, the takeaway might be to look at companies that are less exposed to Chinese import competition, and more exposed to domestic services spending. Lucas: Exactly. And for consumers, it's about being aware that your personal inflation rate might be higher than the government's CPI if you spend more on services and less on goods. Luna: That's a good note to end on. Thanks, Lucas. Lucas: Thanks, Luna. See you next time.