Easing Chinese Inflation Gives Central Bank Scope to Act

Inflation at the consumer level in China fell to a 30-month low, giving the central bank plenty of room to cut interest rates further to support the economy and stave off the threat of deflation.

Eugene Hoshiko / AP

Annual consumer price inflation slowed to 1.0 percent in January from 1.2 percent in December, close to market expectations of a 0.9 percent increase. 

It was the ninth consecutive monthly drop in consumer inflation, which is now well below the 12-year high of 8.7 percent scaled last February.

The National Bureau of Statistics, which released the figures on Tuesday, also said producer prices fell 3.3 percent in the year to January. The decline, the biggest since 2002, was steeper than the 1.1 percent fall in the year to December and the 2.6 percent drop forecast by economists.

Yiping Huang, chief Asia economist at Citigroup in Hong Kong, said the figures pointed to a growing risk of a period of outright price falls.

"In terms of monetary policy, the deflation risk certainly creates huge room for monetary policy expansion, if the policymakers think that is necessary to support growth and possibly also to prevent a further deepening of deflation," he said.

The People's Bank of China has already cut interest rates five times since September, and Huang said he thought the central bank could lower the one-year borrowing rate, now at 5.31 percent, to about 4 percent by the middle of the year.

The world's third-largest economy is reeling from a slump in trade induced by the global credit crisis, and data due on Wednesday will show that exports and imports fell from year-earlier levels in January for a third month in a row, state media reported.

But economists expressed confidence that China would escape a lengthy bout of deflation, which harms companies by increasing the real value of their debt.

Tim Condon, head of China research at ING in Singapore, said consumer prices could fall by more than 2 percent in coming months, while factory-gate prices could drop by more than 5 percent.

But he said: "Significant monetary easing is the way that you address this, and they've done that. It won't take long for that kind of monetary accommodation to reverse the deflation pressure."

Credit growth is also rising fast. An industry source told Reuters on Monday that banks extended about 1.6 trillion yuan in new loans last month, a record.

Jing Ulrich, chairman of J.P. Morgan equities in Hong Kong, joined the chorus of analysts expecting the central bank's aggressive stance to banish the spectre of a protracted drop in the price level.

"Additional rate cuts and an expansion in loan growth should help reduce financing costs and make credit more accessible in the economy, thereby reducing the risks of prolonged deflation," she said in a note to clients.

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The statistics office sounded relaxed about the plunge in producer prices, which it attributed to drooping global commodity prices and a high statistical base of comparison a year ago, when sky-high pork prices were fuelling inflation.

China has not run into a serious deflationary problem yet, so there is no strong need to cut interest rates now," said Wang Jianhui, an economist at Southwest Securities.

Copyright 2009 Reuters. Click for restrictions.