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By Mike Caggeso
Consumer prices in China fell 1.6% in February – the first drop since 2002 and a statistic that may prompt the government to cut interest rates.
Declining values of raw materials, such as iron ore and crude oil, were largely responsible for the decline in China's consumer price index (CPI). Food prices, which make up about one-third of the index, also fell 1.9%.
China Statistics Bureau downplayed the declines, saying they were the result of a high base of comparison. Last February, the cost of nearly everything was in the sky, and consumer prices rose 8.7%.
Commerce Minister Chen Deming and Industry Minister Li Yizhong both described the short-term outlook for China's manufacturing and exports as "grim."
But unlike other countries' economies, China's falling prices so far haven't been complemented by economic recession and shrinking money supply, That has led many economists to see this as a short-term problem.
The main question they're asking is: How will the government respond?
Because if the government doesn't intervene, consumers anticipating further price drops may delay purchases, strengthen deflationary pressures and further weaken the Chinese economy.
"I think this is the first sign of deflation," Qing Wang, China economist for Morgan Stanley (MS) in Hong Kong, told Reuters of the CPI drop. "We expect an additional policy response, mainly to prevent deflationary expectations from getting entrenched."
However, Sun Mingchun, a Hong Kong-based economist at Nomura Holdings Inc. (ADR: NMR), wrote in a note to clients that the lapse into deflation is likely to be temporary. Given the "inflationary nature" of China's $585 billion stimulus Sun thinks Inflation will return by the second half of the year to 2.8% in the fourth quarter.
Sun also thinks the People's Bank of China will lop off an additional 27 basis points sometime this year. Such action would leave the one-year lending rate at 5.04%.
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