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China's strong factory gate inflation shows economic momentum still robust

[BEIJING] China's producer prices were surprisingly strong in October, while consumer inflation picked up pace in a sign the economy remains robust, with analysts expecting further price pressure as the government's crackdown on smog hurts factory output.

Beijing is already in the second year of a campaign to reduce high levels of debt, keeping liquidity conditions relatively tight as it seeks to flush out speculative financing.

Growth, however, has remained strong this year, thanks to a construction boom that has drive up raw materials prices and in part fed inflationary pressures. Analysts say ramped up rules to bring polluting factories to heel will add to the price pressures.

The producer price index (PPI) rose 6.9 per cent in October from a year earlier, despite muted activity during a week-long golden week holiday, data released by the National Bureau of Statistics (NBS) showed on Thursday. It was in line with the growth rate in September when it hit a six-month high.

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"The upshot is that price pressures in China appear strong on the back of still rapid economic growth, a tight labour market, capacity cuts and temporary disruptions to industrial production," Julian Evans-Pritchard, China Economist at Capital Economics, wrote in a note to clients.

"Price pressures may remain strong for a while longer as the anti-pollution campaign keeps commodity prices elevated and this feeds through into core inflation." Analysts polled by Reuters had expected PPI inflation rate would slow to 6.6 per cent.

China's consumer inflation, which has stayed well within Beijing's 2017 target of 3 per cent this year, also accelerated more than expected to 1.9 per cent from 1.6 per cent in September, as food prices fell at a slower pace and due to low base effect.

China's robust growth this year, underpinned by a renaissance in long-ailing "smokestack" industries such as steel has surprised financial markets and investors. But property and construction activity, two of the economy's main growth drivers, are starting to slow due to higher borrowing costs and government measures to cool a heated housing market.

Some analysts expect monetary policy to tilt towards a tighter bias given the economy has expanded nearly 6.9 per cent in the first nine months of the year, and is on track to comfortably meet the government's 6.5 per cent target.

"The rise of inflation momentum seemingly points to further tightening bias in monetary policy," Zhou Hao, an analyst with Commerzbank, wrote in a note.

China has maintained a neutral stance on monetary policy this year with a tightening bias, pushing inter-bank short-term lending rates higher which analysts say has added more cost pressure on firms saddled with a pile of debt.

The weighted average lending rate for non-financial firms, a key indicator reflecting corporate funding costs, rose 14 basis points in the second quarter to 5.67 per cent, the People's Bank of China's latest quarterly monetary report showed.

As northern China enters the heating season in November, the government has stepped up its fight against smog, ordering many steel mills, smelters and factories to curtail or halt production over the winter.

Analysts also see a risk that producer price pressures recede as the smog war curtails production, meaning cooling demand from factories for raw material inputs.

Tangshan, in northern China's Hebei province, plans to temporarily ban production from a total of 18.21 million tonnes of ironmaking capacity from mid-November until mid-March.

The crackdown on pollution has hurt some firms' output.

China's official Purchasing Managers' Index (PMI) and Caixin PMI both showed growth in the country's manufacturing sector cooled in October.

Producer price inflation of raw materials eased only marginally to 9 per cent in October compared to 9.1 per cent in September, NBS data showed. Industries such as oil and gas mining recorded stronger price gains of 5.1 per cent last month.

China's economy is expected to cool to 6.7 per cent from a year earlier in the fourth quarter and will likely grow 6.8 per cent in 2017, accelerating for the first time in seven years, a Reuters poll showed.