Chinese CPI eases on weak demand - Nomura

Analysts at Nomura explained that China's CPI inflation eased on weak demand but may spike temporarily on floods.

Key Quotes:

"CPI inflation edged down to 1.9% y-o-y in June from 2.0% in May, largely on lower food prices, especially vegetable prices.

PPI deflation eased further to -2.6% y-o-y in June from -2.8% in May, but its month-onmonth change turned negative, likely reflecting weaker investment demand.

CPI inflation may spike temporarily in the months ahead on food prices as heavy flooding in many parts of the south will hinder supply. • We continue to expect accommodative monetary policy, with three more cuts to the bank reserve requirement ratio (RRR) and one interest rate cut in H2. CPI inflation edges down on food prices CPI inflation edged down to 1.9% y-o-y in June from 2.0% in May, against our forecast of a slight increase.

On a month-on-month basis, CPI fell by another 0.1% after a 0.5% decline in May, with the decline largely seen in food prices (-1.4%), particularly vegetable prices (-12.5%).The pork price increased but at a slower pace of 1.1% m-o-m, resulting in lower year-on-year inflation growth to 30.1% from 33.6% in May. Non-food price inflation rose to 0.2% m-o-m in June from 0.1% in May. PPI deflation eased further, but sequential change turned negative again PPI growth picked up slightly to -2.6% y-o-y in June from -2.8% in May (Consensus: -2.6%; Nomura: -2.5%).

On a month-on-month basis, PPI change turned to -0.2% m-o-m, after staying above 0 for three months, which may reflect weaker investment demand in June. However, the producer’s purchase price rose by another 0.2% m-o-m in June after a 0.6% rise in May, mainly driven by a continued rise of commodity prices. Brent oil was up 3.2% m-o-m. Producer price margins narrowed in June, which does not bode well for profit growth. Prices may spike temporarily on floods, but this is unlikely to be a constraint on monetary policy With massive flooding in many provinces, we see a real possibility of CPI inflation spiking in Q3.

PPI may also see a temporary spike due to the post-flood demand shock. CPI inflation may even rise to above 3% y-o-y in Q3 (see Asia Insights - China: Flooding may boost demand in Q4, 8 July 2016), but such a spike should be short-lived. The temporary spike in CPI and PPI is unlikely to pose a meaningful constraint on monetary policy easing, as we expect the People’s Bank of China to see through the temporary supply shocks and maintain an accommodative policy stance to curb downward pressure on growth. Hence, we remain comfortable with our call of three more cuts to the bank reserve requirement ratio (RRR) and one benchmark interest rate cut in H2 2016, with the earliest RRR cut likely being delivered in July."