Inflation continues to drop in China, interest rate cuts continue to inch closer

01/12/2012 2:16 pm EST

Focus: STOCKS

Jim Jubak

Founder and Editor, JubakPicks.com

Inflation at the consumer level fell to a 15-month low in December, China’s National Bureau of Statistics announced today. Inflation at the producer level fell to the lowest rate in two years.

The path to another cut by the People’s Bank of China in the now bank reserve requirement before the Lunar New Year holiday is now wide open. In December China’s central bank reduced its record-high reserve requirement ratio for the first time since 2008.

Consumer prices rose in December at 4.1% annual rate. That was down from a 4.2% rate in November and just slightly above the 4% median estimate from 26 economists surveyed by Bloomberg. For all of 2011 inflation grew at a 5.4% rate, well above the government’s target of 4%.

I think we’re still months away from an actual cut to interest rates though. The Lunar New Year holiday usually produces a brief tick upward in inflation due to increased consumer spending (and reduced industrial production) before the holiday. Weather has produced some disruption to food supplies and that pushed food prices up at an annual rate of 9.1% in December.

The timing of any interest rate cuts—and any decision on the number of cuts in bank reserve requirements—will be heavily influenced by the growth rate for China’s economy in the fourth quarter. Economists now expect that government data set to be released on January 17 will show that the economy’s growth rate slowed to 8.7% in the fourth quarter. That would continue a pattern of declining growth in 2011 that has seen annual growth slip from 9.7% in the first quarter to 9.5% in the second quarter to 9.1% in the third quarter as the Beijing government fought to slow the economy to reduce the inflation rate.

A reading of 8.7% for the fourth quarter would keep China on track to a bottom near 8% in the second quarter of 2012 and probably wouldn’t cause the People’s Bank of China to consider speeding up the first interest rate cuts from, I speculate here, June or July.

Anything much below 8.7%, though, will get the bank’s attention.

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