China restricts lending as inflation hits 5.5%

China said yesterday its politically-sensitive inflation rate hit its highest level in nearly three years in May, prompting Beijing to further restrict bank lending to stem a flood of capital.

The consumer price index jumped to 5.5 per cent year-on-year in May – far above the official annual target of four per cent – as food costs soared on power shortages and crippling droughts in some areas.

It was the highest rate since July 2008, when the index rose 6.3 per cent.

While the data underlined concerns over rising costs, it met forecasts and sent Asian stock markets higher. Many nations in the region rely heavily on the world’s second-biggest economy to help drive their own growth.

The People’s Bank of China said after the data release that it would increase the reserve requirement ratio by 50 basis points, effectively limiting the amount of money banks can lend, in the latest move to tame consumer costs.

The move will come into effect on June 20, the central bank said in a statement.

The data fuelled expectations for even further monetary tightening in the coming weeks as authorities – anxious about inflation’s potential to spark social unrest – try to hold back an avalanche of credit in the economy.

China’s economy is “still facing significant inflationary pressures” and must implement measures to contain prices, National Bureau of Statistics spokesman Sheng Laiyun told a news conference.

Royal Bank of Canada senior strategist Brian Jackson said there were “no surprises” in the reserve ratio increase and it would likely be followed by an interest rate hike before the end of June – the fifth since October.

“We expect price pressures will ease later in the year, but in the very near-term, headline measures of inflation are above Beijing’s comfort level,” Mr Jackson said in an earlier research note. “This suggests that more rate hikes are likely over the next few months. We also expect Beijing will tolerate further gains in the yuan against the dollar as part of its efforts to curb inflation.”

Beijing has allowed the yuan to strengthen more than five percent against the greenback since vowing a year ago to let it trade more freely, following intense international pressure for a stronger currency.

Bank of America-Merrill Lynch economist Lu Ting said the move to increase the reserve ratio to 21.5 per cent for big banks and 19.5 per cent for small lenders showed Beijing had “no plan to ease its monetary policy stance any time soon”.

Investors reacted positively to the inflation data, with Shanghai closing 1.10 per cent higher at 2,730.04 – before the tightening was announced – as several analysts said the figures showed China would escape a hard landing.

Tokyo jumped 1.05 per cent, Seoul gained 1.37 per cent and Sydney climbed 0.50 per cent. Hong Kong closed flat at 22,496.00.

Output from the country’s thousands of workshops and factories rose 13.3 per cent from a year earlier in May, slightly slower than the 13.4 per cent in April amid electricity shortages and a government clampdown on bank lending.

Fixed-asset investment for the January-May period rose 25.8 per cent on year, up from 25.4 per cent in the first four months of the year.

Retail sales rose 16.9 per cent year-on-year in May.

Apart from industrial output, there were other signs the Asian powerhouse slowed in May – year-on-year auto sales fell for the second straight month, new loans dropped more than expected and manufacturing activity lost steam.

Some experts are concerned that authorities may have gone too far in trying to slow the economy, which grew a blistering 9.7 per cent in the first quarter, and the tightening measures could trigger an abrupt slowdown.

Beyond the interest rate hikes, Beijing has repeatedly raised the reserve ratio to stem credit growth, as it did yesterday.

But Mr Lu said “a hard landing is a low-probability event” and the robust fixed-asset investment figure may ease concerns about a “coming collapse” in China.

Mr Jackson said the data showed “growth is moderating in response to recent policy measures” but there was “little to suggest that Beijing needs to worry about a hard landing in coming months”.

Inflation, which has been hovering above five percent for months, has already triggered bouts of unrest around the country.

In April, Shanghai truck drivers went on strike over high fuel costs while a group of high school students in southwestern China in November smashed windows and overturned tables after their canteen hiked prices.