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China Central Bank Warns on Inflation, Pledges Reform

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China must stabilize inflation expectations, the head of the People's Bank of China said on Wednesday, vowing to vigilantly manage the risks of rising prices as the central bank's first priority while also pledging further capital market reforms.

Governor Zhou Xiaochuan, in comments that further reinforce the market's view that the People's Bank of China (PBOC) has dropped the pro-growth policy mix of 2012, said the central bank's stance had shifted to neutral from loose and that policy was now prudently set to rein in the risk of rising prices.

"The central bank has been paying high attention to inflation figures and we will stabilize inflation expectations via monetary policies," Zhou told a news conference on the sidelines of China's annual meeting of parliament.

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"February CPI was slightly higher than expectations, suggesting that we need to keep vigilant on inflation," Zhou said when asked about a spike in annual consumer price inflation to a 10-month high of 3.2 percent in February.

The PBOC chief pledged to maintain a drive for reforms to the country's financial markets and the capital account, which remain tightly controlled, and would respond to market demand for freer access to the tightly managed yuan currency.

"The rising demand for yuan's broader use in trade and investment will help push forward yuan capital account reform," Zhou said.

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Reuters reported earlier this month that China is set to use swelling offshore holdings of its tightly-managed currency worth around 1 trillion yuan ($160 billion) to justify a landmark shift in tactics to relax capital controls.

Investors expect China to make its currency basically convertible by 2015, or 2020 at the latest, and have anticipated that monetary authorities would do so according to a series of time-tabled steps. The new approach adds more uncertainty to the route Beijing may take to full currency flexibility.

"We know that overall this is a very complicated process and we will stick to the principle of carrying out the reform in a gradual way," Zhou told the news conference.

Competitive Depreciation

PBOC Deputy Governor, Yi Gang, told the same news conference that the central bank was closely watching for any impact on China of the loose monetary policies being pursued by major central banks to help promote growth in their home economies.

Central banks in the U.S., the euro zone, Japan, and the U.K. have been following unorthodox monetary policies, including quantitative easing, which has weakened or restrained their currencies in consequence and raised the risk, according to some economists, of a currency war.

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Yi, who also heads China's currency watchdog, the State Administration of Foreign Exchange (SAFE), said the world's major economies should avoid competitive currency depreciations.

"All G-20 countries should strictly follow the communique made at the latest summit to set their monetary policies based on their country's economic conditions and avoid competitive depreciation," Yi said.

Group of 20 (G-20) economies agreed at a February meeting to avoid a currency war, committed to refrain from competitive devaluations and pledged that monetary policy would be directed to achieve price stability and growth.

Zhou said PBOC policy settings were directed at containing inflation after a period of being relatively loose to support the economy in the wake of the 2008-09 global financial crisis.

"The annual M2 target of 13 percent represents a prudent monetary policy, which means the policy stance will be neutral and no longer loose," he said. "The 13 percent target this year is tighter than the actual money growth rate last year, which reflects that we emphasize the task of keeping prices basically stable."

M2 money supply grew 13.8 percent in 2012.

Price Stability in Focus

Zhou's comments underline the thrust of the central bank's last monetary policy report from 2012, released in February, which put price stability at the top of the agenda as the economy began to show signs of recovery from its slowest full year of growth since 1999.

China's economy grew 7.9 percent in the fourth quarter of 2012 from the previous year, after dipping to 7.4 percent in the third quarter, to help lift overall growth to 7.8 percent last year.

The recovery has largely been built on state-backed infrastructure spending which, coupled with relatively easy lending conditions last year, has also reignited property price inflation which the government has been anxious to snuff out.

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China's new home prices rose an average of 0.8 percent in January from a year earlier, snapping 10 months of decline, according to official National Bureau of Statistics data, with prices rising in 53 of the 70 major cities it analyses.

In Reuters' weighted index — derived from the NBS data — home prices rose 12.2 percent in Beijing in January from a year earlier — the kind of double-digit rise that has prompted previous crackdowns on the property market.

Zhou said the PBOC would reinforce efforts to contain house price rises in 2013 as part of broad government efforts to restrain real estate speculation, but added that the central bank would stay focused on consumer and producer price inflation, rather than asset price rises.