China consumer inflation cools to near 5-year lows

China's consumer inflation eased in September to levels not seen since January 2010, further evidence that the world's second-largest economy is losing momentum but giving policymakers room for more stimulus if necessary.

Consumer prices rose 1.6 percent from the year-ago period, data on Wednesday showed, due to lower commodity prices and declining food inflation. This is a tad lower than the 1.7 percent gain forecast by Reuters and after climbing 2 percent in August.

Wholesale prices, meanwhile, dropped 1.8 percent, versus expectations of a 1.6 percent decline and after falling 1.2 percent the month before. Producer prices in China have been declining since February 2012, weighed by falling commodity prices, overcapacity and weakening demand.

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The Australian dollar briefly eased against the U.S. dollar on the news, before recovering to trade at $0.8701. Meanwhile, both China's Shanghai Composite index and Hong Kong's Hang Seng index rose 0.2 percent.

"I think these are very disturbing numbers. Deflation in the factory gates in China is not new; [but] we now have deflation in the housing market. The key question is – how much of this is going to continue to spill over?" said Richard Iley, chief economist of Asia at BNP Paribas.

"We are now down 1.6 percent versus [Beijing's] official target of 3.5 percent and this is before we've had the full impact of this collapse in oil prices. So you got falling oil prices, falling house prices, excess capacity in the industry and an appreciating currency. So everything is pointing to deflation getting a whole lot worse before it can get better," he added.

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The upside, some analysts say, is that benign inflation gives policymakers more wriggle room for further stimulus.

On Tuesday, China's central bank cut short-term borrowing costs for banks for the second time in less than a month, cutting the interest rate on 14-day repurchase agreements, a kind of short-term loan to commercial lenders, by 0.10 percentage point to 3.40 percent. This followed a move on September 18 to lower the rate by 0.20 percentage point to 3.50 percent.

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"I think on the macro top-down perspective, now people are really worried about growth moderating the next few quarters," said Wendy Liu, head of China equity research at Nomura. "[These moderate] inflation numbers show there's actually more room for easing."

China's economy has slowed in recent times as Beijing shows an increased tolerance for slower growth as the economy transitions towards domestic consumption from manufacturing as its key mode of growth.

But analysts note that Beijing will stick to its script of small bursts of targeted stimulus instead of aggressive moves like cuts in the reserve requirement ratio (RRR) of banks.

While policymakers will strive to reach Beijing's growth target of 7.5 percent for 2014, the preference is to adapt eventually to a slower, but more sustainable growth. There's also increasing chatter that Beijing will drop its growth target in 2015 to the region of 7 percent.

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"Central government officials remain highly reluctant to stoke growth, citing concerns about the pervasive effect of mega-stimulus on efforts to transition towards more sustainable growth," IHS Global Insight China Economist Brian Jackson, said in a note.

"According to comments from a MOF (Ministry of Finance) official, growth as low as 7 percent could support a stable labor market outlook... consistent with recent comments from senior leaders that job creation is a higher priority than overall growth," he added.