China's consumer inflation eases in August, factory deflation improves

China's consumer price index (CPI), a key gauge of retail inflation, rose by 2.4 percent from a year earlier in August, contracting by 0.3 percentage points from July, mainly due to easing food price inflation, the National Bureau of Statistics (NBS) said on Wednesday.

Meanwhile, China's producer price index (PPI), which measures costs for goods at the factory gate, fell by 2 percent in annual terms in August, suggesting the country's industries are continuing to recover from the COVID-19 outbreak. However, the decline was more modest than the 2.4-percent drop in July.

Both consumer inflation and factory deflation were in line with analysts expectations in a Reuters poll. The fall in PPI was only slightly more than the 1.9-percent contraction tipped by Bloomberg consensus.

"Since both CPI and PPI readings are quite close to market consensus, we expect the impact on markets to be limited," said Nomura's Chief China Economist Lu Ting.

CPI eases due to weaker food inflation

"The fall in year-on-year CPI inflation was mainly driven by a sharp slump in pork price inflation due to a high base and an increase in the weighting of pork in the CPI basket to 3.3 percent in August from 2.7 percent in July," said Lu.

Food prices accelerated to 11.2 percent year on year in August, down from 13.2 percent in July, NBS data showed. "Consumer price inflation stabilized due to weaker food inflation," said Wang Dan, chief economist with Hang Seng Bank China.

Pork prices rose by 52.6 percent in August from a year earlier, affected by the comparison base last year. "Pork supply has improved, but demand continues to increase," said Dong Lijuan, a senior statistician with the NBS.

Non-food prices grew by 0.1 percent in August from a month earlier, the first increase since February. Among non-food items, summer trips increased by 7.3 percent from July, and air tickets and hotel accommodation prices rose by 2.1 percent on a monthly basis.

"Core inflation remained unchanged at a very low level of 0.5 percent year on year in August, thanks to a sharp fall in crude oil prices which have a material impact on the prices of many final products," said Lu.

"The overall arrangement of epidemic control and economic development has gained obvious results, and the market supply and demand are generally balanced," Dong concluded.

PPI improves amid stronger export demand

Concerning PPI, Dong said, "In August, industrial production continued to improve while market demand kept recovering." She added, "Prices for global commodities such as crude oil, iron ore and non-ferrous metals continued to rise, driving a rebound in domestic factory-gate prices."

"Factory gate prices have narrowed contraction for the third consecutive month, due to stronger construction activities and export demand," said Wang.

China's economy returned to growth in the second quarter of this year as COVID-19 eases and policymakers announced economic packages. The world's second-largest economy grew by 3.2 percent between April and June from a year earlier, reversing a 6.8-percent decline in the first quarter.

Recent indicators, including exports and purchasing managers' index (PMI), have pointed to a sustained recovery in economic activity and manufacturing. China's exports rose by 9.5 percent year on year in August in U.S. dollar terms, marking the strongest gain since March 2019.

China's manufacturing PMI stood at 51 in August, above the expansion/contraction threshold of 50. However, the pace of expansion slightly missed expectations, with impacts from heavy floods in the south of the country.

What's next for CPI inflation and PPI deflation?

The CPI is expected to continue to fall in the next few months as the floods ease and the high base effect appears. As for PPI deflation, its decline will continue to narrow given the low base effect and the continued economic recovery, according to CIO Wealth Management of UBS.

Lu expected the CPI to fall to around 2 percent in annual terms in September and decline to below 1 percent at the end of this year. He predicted PPI inflation could stay around negative 2 percent year on year in the next couple of months due to weak energy and commodity prices after some initial recovery.

"Falling year-on-year headline and core CPI inflation is largely due to a high comparison base. Sequential inflation, if appropriately seasonally adjusted, should be slightly on the rise thanks to the recovery both in China and globally," Lu explained, adding that there were no worries on deflation.

Wang forecasted pork inflation to rebound in the third quarter owing to seasonal factors and historical high piglet prices – a leading indicator of the pork cycle. "Rental housing prices continue to decline, reflecting halted migration flows and still-subdued labour market. The headline inflation figure will likely stay within the 3.5-percent official target for the year," she said.

"We expect industrial prices to continue picking up in the coming month, which will help ease firms' debt pressure," Wang continued.

Lu believed Beijing will continue its "wait and see" policy approach by neither stepping up nor rolling back its existing policy easing measures.