Inflation in China – Is It Back?

By: Dhara Ranasinghe

China's central bank says the country needs to pay more attention to consumer prices. That's reason enough to see why inflation numbers are likely to be the highlight of Friday's data releases from the world's second biggest economy.

The Chinese economy is recovering from its worst yearly downturn in 13 years,raising some concerns that as the economy bounces back price pressures will start to rise.

The country's central bank said in a report released on Wednesday that China should pay more attention to consumer prices, with controlling inflation a priority. That marks a shift from its previous focus on growth.

"The inflation data are important - basically because there is a growing realization that inflation is starting to head upwards and there is a risk that China may start to unwind monetary easing sooner than expected," said Alistair Chan, an economist at Moody's Analytics in Sydney.

"The central bank came out yesterday (Wednesday) saying that inflation is a risk so I think the inflation numbers will be watched carefully this time," he added.

The Consumer Price Index in China rose to a seven-month high of 2.5 percent in December from a year earlier. Chan forecasts a rise of 2.2 percent in January, a slight easing from the December number, which Chan says was boosted by a base effect.

(Read More: China Inflation Accelerates - Time to Remove the Punch Bowl)

Analysts at Barclays also expect Chinese inflation to have accelerated 2.2 percent last month.

"We will focus on the CPI numbers and if inflation picks up that means stimulus could come off the boil," Jonathan Barratt, founder of the commodities market newsletter Barratt's Bulletin, told CNBC on Thursday.

Fiscal stimulus measures from China last year included a $150 billion-plus infrastructure spending package and incentives for exporters. The country's central bank meanwhile delivered two reductions in interest rates and the reserve requirement ratio for banks.

When it comes to what could fuel inflation in China, stimulus from regional governments or from the central government needs to be watched, said Lombard Street Research Economist Freya Beamish.

"We did see production in China ratchet up from the lows of the first half of last year and that could only have been driven by local government spending patterns," she said. "So, we have stimulus present and if we continue to see more of this, then inflation is likely to come back, but I don't think we're there yet."

Latest data shows industrial output grew 10.3 percent in December from a year ago, versus expectations of 10.1 percent.

(Read More: World's No.2 Economy Is Setting Itself Up for Solid 2013)

Exports Sidelined

China is also scheduled to release its latest trade data on Friday. Economists do not expect any significant market impact from the numbers, which they say are likely to be volatile due to distortions related to the Chinese New Year holiday that fell in January last year and falls in February this year.

Economists polled by Reuters forecast a 17 percent rise in January exports from a year earlier and a rise of about 23 percent in imports. Economists added that they would wait until March to get a clearer understanding of how Chinese exports performed at the start of the year.

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