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China hikes rates on bubble, inflation fears

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With the cost of real estate soaring and the price of food creeping higher, China’s central bank has begun to rein in its record fiscal stimulus over fears that asset bubbles and inflation could destabilize the economy.

The People’s Bank of China began selling its three-month bills at a slightly higher interest rate Thursday for the first time since August, a move aimed at mopping up excess liquidity brought on by the $1.35 trillion in new loans issued between January and November last year.

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The move is expected to send a signal to China’s commercial banks not to replicate the lending binge of 2009 as policymakers attempt to prevent the nation’s economy from over-heating.

‘There is...good reason to view the rise as a precursor to further tightening,’ said Ben Simpfendorfer, chief China economist for the Royal Bank of Scotland.

This could be prove much like threading a needle, however, as China has relied on massive stimulus and loose credit to register 8.9% year-on-year growth in the third quarter, by the far the most impressive growth of any major economy.

But Simpfendorfer notes that, while gross domestic product growth has averaged 10% over the last three quarters, consumer price index inflation has reversed from a 2.0% drop year-on-year to a 0.5% rise.

The price of food, a major part of the CPI index, is considered a major barometer of social stability in China.

Alaistair Chan, associate economist for Moody’s Economy.com, noted that Chinese households were anticipating inflation and that speculators have already responded by driving up the price of garlic and dried chili peppers.

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The central bank has pledged to continue its so-called ‘moderately loose’ lending in 2010 to keep China on track to overtake Japan as the world’s second-largest economy.

Local reports have suggested that 2010’s new credit target will settle at $1.1 trillion. Though less than last year, increased regulatory focus on preventing the credit from heading to speculative assets could prove a boon for fixed-asset investment.

Chan said that by increasing the rate of the three-month bills from 1.3280% to 1.3684%, policymakers were taking a slow approach to monetary easing before having to resort to higher interest rates or adjusting the exchange rate.

-- David Pierson in Beijing

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