By Koh Gui Qing
BEIJING (Reuters) - China's annual inflation rate jumped more than expected in March to 3.6 percent as food prices remained volatile, but economists believe price pressures will moderate over the rest of year, giving Beijing the flexibility to ease monetary policy to support growth.
Expectations that a cooling economy has eclipsed inflation as the government's biggest near-term worry were reinforced by surprisingly soft producer prices, which fell 0.3 percent from a year ago, sparking concerns this indicated weakening demand.
Analysts said Monday's price data suggested China's inflation is set to moderate rather than slow dramatically in coming months, and that Beijing will likely meet its 2012 inflation target of 4 percent even as it slowly loosens policy.
"Nothing in this (March) number looks like it is pushing me away from the comfortable view that inflation is on a downtrend," Tim Condon, head of Asian economic research at ING in Singapore, told Reuters.
"The overall trend is that food is going to be dragging down the consumer price index over the course of the entire year," he said.
Economists polled by Reuters had forecast China's consumer inflation to run at 3.3 percent in March from a year ago, compared with February's 3.2 percent, while producer prices were seen easing 0.2 percent.
Falling producer prices are at odds with a pair of Purchasing Managers' Index (PMI) surveys published earlier this month that showed factory inflation quickening on higher fuel and raw material costs.
They also jar with China's rising minimum wages, which Beijing aims to increase 13 percent a year for the next five years, to the anguish of employers who complain of thinning profits.
Graphic for China's inflation data: http://link.reuters.com/tek57s
Yet, Monday's data showed China's producer inflation, which does not always foretell consumer inflation, cooling across the board. The slowdown was the sharpest in the mining sector.
"My concern is not about the consumer price index, it's about the producer price index (PPI). We've been concerned about PPI for a while," said Ren Xianfang, an analyst at IHS Global Insight in Beijing.
"Since the final quarter of last year, it has been falling towards deflationary territory and now it has been realized. This will affect our outlook about how fast the economy is recovering," she said.
Analysts expect data on Friday to show that the world's No. 2 economy expanded at its slowest pace in nearly three years in the first quarter of 2012 at 8.3 percent, setting China on course for its weakest full year of growth in a decade.
Economists have been broadly expecting the growth cycle to bottom in the first quarter of the year. Patchy data has started to see some forecasts shift that trough into Q2, though the consensus call remains for a rebound in the second half of 2012.
China's inflation averaged 3.8 percent in the first quarter - a level not far below Beijing's 2012 target and which analysts said was a sign that inflation would not cool sharply in coming months.
A breakdown of the latest data by the National Bureau of Statistics showed food prices, the biggest driver of inflation by lifting the CPI by 2.4 percentage points in March, stayed stubbornly high for some items.
Vegetable prices, notoriously volatile in China and hard to predict, climbed 6 percent from a month earlier and soared 20.5 percent on the year in March.
Wang Changyu, general manager at Beijing Xinfadi Century Changxi Vegetable, a major vegetable wholesaler in Beijing, said prices were climbing on rising labor costs, an unusually cold spring and prolonged rain that hurt harvests. Making matters worse was that some farmers planted less this year after suffering heavy losses last year, he said.
But inflation for other farm products showed signs of tapering off. The price of pork, a staple in the Chinese diet, surged 11.3 percent from a year ago, but fell 4.8 percent from February.
Standard Bank's China economist, Jeremy Stevens, calculates that overall food inflation continues to moderate with the six-month moving average dropping to 9 percent in March from 9.9 percent in February.
"The trend is still headed lower," said Li Wei, an economist at Standard Chartered in Shanghai. "March was a relatively cold month in the north so that may have contributed to food CPI being stronger than expected."
Many analysts said the trend of slowing inflation should hold and restrain China's price pressures for the rest of 2012, especially given high year-ago comparison figures.
That would give China's central bank ample scope to unwind some of its strident tightening between 2010 and 2011, when it raised interest rates five times and the amount of cash banks are required to hold as reserves a total of 12 times.
A Reuters poll showed analysts think another 150-basis-point cut in banks' reserve requirements to 19 percent by December is in store to encourage more lending to cash-strapped firms.
And though China raised retail gasoline and diesel prices in March by 6-7 percent, analysts say that has limited direct impact on overall inflation as they believe energy carries a small weight in China's consumer price index basket.
"Any notions that prices in China are problematic for policy seem premature," Standard Bank's Stevens told Reuters. "Looking ahead, price pressures will remain contained unless PPI and food prices bounce sharply, which seems rather unlikely."
(Additional reporting by Nick Edwards, Lucy Hornby and Niu Shuping; Editing by Richard Borsuk)