China’ CPI inflation accelerates in January on base effects

China's January CPI inflation accelerated to 1.8% y/y, as compared with the 1.6% increase in December. The acceleration was mainly due to holiday period and base effects. January's food inflation reached 4.1% y/y, as compared with December's 2.7%. Meanwhile, core inflation remained unchanged at 1.5% y/y for the fourth consecutive month. Meanwhile, a revised CPI/PPI basket became effective in January 2016. In the near term, the updated CPI basket is likely to push inflation downwards.

"Although the new weights were not disclosed, we estimate that the new CPI basket likely now assigns less weight to food items (from c.33% to c.21%), and more weight to non-food items. Our calculations suggest that the net impact on CPI inflation from the basket revision would be around 0.3ppt in January, compared with 0.08ppt in y/y terms according to the NBS", says Barclays.

In the long run, however, there is a likelihood that the net impact on CPI will be positive due to the increasing consumer spending on non-food items and the Balassa- Samuelson effect. Also, PPI deflation decreased to -5.3% y/y in January from December's -5.9%, the biggest rebound since January 2015. The producer goods index rebound to 6.9% y/y due to narrower contractions in the raw material and manufacturing sectors but partly countered by a fall in the mining sector. PPI deflation is likely to narrow further due to the unwinding negative impact of commodity prices and capacity reduction.

Overall, the inflation data was mainly driven by base effects and holiday that might not be sustainable. With high PPI deflation and flat core inflation there is enough room for further monetary easing.

"We continue to look for two 50bp RRR cuts and two 25bp benchmark rate cuts in H1 16 to support liquidity and lending. In particular, if the CNY stays relatively stable in coming weeks and if the Fed were to delay the rate hike in mid-March, we think this could open the window for potential rate action by the PBoC", says Barclays.