November 22, 2010 / 5:35 AM / 9 years ago

China takes aim at inflation expectations

BEIJING (Reuters) - China sought Monday to reassure people that inflation will remain in check, voicing confidence that ample grain supplies and excess capacity in industry will keep a lid on price pressures.

Economists said the effort to manage inflation expectations was meant to reinforce an array of measures in recent days to curb actual inflation, including Friday’s order to banks to hold more of their deposits in reserve instead of lending them out.

“We can understand the worries of residents about the relatively quick rise in food prices and other daily necessities,” the National Development and Reform Commission, China’s economic planning agency, said.

“But we also have the confidence to say that our country has the capacity and conditions to keep overall prices at a stable level,” it said.

Underlining its importance, the agency’s statement was carried on the front page of the People’s Daily, the mouthpiece of the ruling Communist Party.

The government followed Friday’s half-point increase in banks’ required reserves to 18.5 percent, a record high, by providing more details of the administrative measures it is drawing up to contain inflation.

Road tolls for vehicles carrying fresh produce will be scrapped from December 1, and local authorities will have to ensure energy and transport prices for fertilizer producers are reduced, state media said.

Regional governments will also have to ensure a steady supply of coal and oil.

“The administrative measures until now are mainly aimed at speeding up supplies. But there’s a good chance that China will eventually resort to administrative price controls,” said Wang Han, an economist in Shanghai with CEBM, an advisory service.

PRE-EMPTIVE STRIKE

Beijing announced an initial volley of steps last Wednesday, including handouts to people on low incomes, after inflation jumped to a 25-month high of 4.4 percent in the year to October.

Qian Wang, an economist with J.P Morgan, said the government had rolled out similar measures after a spike in prices in late 2007 and early 2008. The difference now was that Beijing was acting earlier in the inflation cycle.

“This could stabilize food prices in the short term, but the underlying inflation trend is quite strong,” she said.

Food is the primary concern of policymakers. The price of foodstuffs, which make up a third of China’s consumer price index, rose 10.1 percent in the year to October.

The cabinet has singled out grain, oil, sugar and cotton as markets that it wants to stabilize. It has vowed to intensify a crackdown on price speculation and to punish hoarders.

The Communist Party is acutely sensitive to the political risk posed by inflation. Rising prices added to discontent in the build-up to anti-government protests in 1989 that were crushed by the army.

Inflation today is mild by comparison, provoking no more than grumbling. The Party wants it to stay that way.

“The government is adopting pre-emptive measures to stay ahead of the inflation curve, and that will be important in managing the inflation expectations of ordinary people,” said Xu Jian, an economist at China International Capital Corp in Beijing.

WAITING FOR A RATE RISE

Even though inflation was likely to pick up to 5 percent next quarter, Xu said he thought Beijing would not lose control of inflation thanks to its prompt “one-two punch” of short-term administrative measures and tighter monetary policy.

The NDRC said state reserves of grains and other agricultural products were ample to meet demand, while there was no reason to fear inflation in manufactured goods because industrial capacity far exceeds supply.

Non-food inflation in the year to October was just 1.6 percent.

Financial markets were unperturbed by Friday's increase in reserve requirements. Asian stocks outside Japan .MIAPJ0000PUS were up 0.55 percent on relief that Ireland would be bailed out of its debt morass, while shares in Shanghai .SSEC recouped early losses to end the morning with a gain of 0.47 percent.

Most economists expect the central bank to follow the increase in reserve requirements by raising interest rates, even though higher yields would attract capital inflows and add to already abundant liquidity in the banking system.

Jianguang Shen with Mizuho Securities in Hong Kong reckons the People’s Bank of China, which raised rates on October 19, will do so again at least once before the end of this year.

Xu with CICC expects two increases by mid-2011, while Wang Han with CEBM is penciling in rises for December and February.

(Additional reporting by Langi Chiang and Ben Blanchard)

Editing by Kim Coghill

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