China's consumer prices rose 7.7 percent in May from a year earlier, easing from an almost 12-year high of 8.5 percent in April, two sources familiar with the data said on Tuesday. Economists polled by Reuters had expected inflation to dip to 7.9 percent, largely because many fresh food prices have started to fall after surging over the past year.
A 7.7 percent reading would mark the first significant drop in the consumer price index since last year and would be a relief to policy makers, who have identified inflation as the country's biggest economic headache. The CPI is scheduled to be released on Thursday at 0200 GMT. The data could still be subject to last-minute revision, sources said. They declined to be named as they are not authorised to speak to the media.
"This is a good turning point. Because of past policies to boost food, especially pork production, I think we'll see the CPI dropping further in the coming months and average 5.5 to 6 percent for the whole year," said Gene Ma, chief economist at China Economic Monitor, a Beijing consultancy.
However, that would still be well above this year's official target of 4.8 percent. Despite softening food prices, economists worry that manufacturers will start to pass on soaring prices for energy and raw materials, keeping consumer inflation uncomfortably high.
Prices at the factory gate rose 8.1 percent in the year to April. Economists expect figures on Wednesday to show an acceleration in the producer price index to 8.3 percent in May. "Despite the fact that the risks for the fast-growing economy to boil over have eased, the risk that structural price increases could spill over and become broad-based is still quite large," a senior government official said in remarks published on Tuesday.
"A major reason is the acceleration in producer prices," Xu Lianzhong, head of the price control office in China's top planning agency, wrote in the official China Securities Journal. Xu recommended an even stronger yuan, which would make imports cheaper, to help cap inflation.
Coincidentally, the central bank set the yuan's reference point on Tuesday at 6.9199 per dollar, the highest level since the currency's 2.1 percent revaluation in July 2005. The yuan has now risen more than 19 percent in total against the dollar. A stronger yuan would also help China trim its large trade surplus, the main source of a torrent of liquidity in the economy that is making it harder for the central bank to control credit growth and inflation.
In its latest salvo against excessive liquidity, the People's Bank of China on Saturday raised the proportion of deposits that banks must hold in reserve, rather than lending out, by a whole percentage point to a record high of 17.5 percent. The increase, the fifth this year, was more aggressive than the usual half-point increment and sparked a sharp fall when the stock market reopened after a public holiday on Monday.
The Shanghai Composite Index ended Tuesday morning's session down 5.67 percent. "The 1 percentage point hike was an unpleasant surprise, and so was the extent of the market's fall at the opening," said Zhang Qi, an analyst at Haitong Securities.
Even though officials concede the 2008 CPI goal of 4.8 percent will be tough to hit, Yao Jingyuan, chief economist of the National Bureau of Statistics, dismissed the chances of runaway inflation. "There is no way hyperinflation will break out in China," he was quoted as saying in the China Securities Journal.