(Reuters)
Updated: 2007-05-14 14:06

China's bond curve steepened on Monday after April inflation data at the low end of expectations did little to ease worries about an interest rate hike. Money market rates edged up as repo rates continued to climb.

The government said annual consumer price inflation slowed to 3.0 percent in April from 3.3 percent in March. The market had expected 3.1 or 3.2 percent.

Traders said bond yields could stabilise for one or two days following the inflation figures, but would continue to rise gradually in coming months because the potential for higher inflation remained and real bank deposit rates were negative.

"The central bank can't really cool the economy without an interest rate hike, so bond yields are still under upward pressure, especially for medium- and long-term yields," said a trader at a U.S. bank in Shanghai.

The indicative five-year government bond yield rose sharply to a 23-month high of 3.2345 percent bid from 3.2055 percent on Friday, according to Reuters Reference Rates.

Data released on Sunday showed that although M2 money supply growth eased in April to 17.1 percent from 17.3 percent in March, households' bank deposits dropped by their biggest monthly amount ever in response to negative real rates and the stock market boom.

In the money market, yields rose across the curve on Monday as the approach of the latest reserve ratio hike, to take effect on Tuesday, continued to push up repo rates.

The weighted average seven-day repo climbed to 3.2053 percent by midday, its highest level since April 27 when two major IPOs caused a liquidity squeeze, from 3.0164 percent on Friday.

In response, the 90-day central bank bill yield in the secondary market was indicated at 2.7220 percent bid on Monday against 2.7210 percent on Friday.

Some traders believe the central bank may be trying to guide the seven-day repo, which has moved around 2 percent in recent months except for spikes during periods of abnormally heavy fund demand, into a higher area for the long term -- perhaps around 2.5 percent.

"The seven-day repo could fall back to around 2.5 percent by the end of the week," but may not go lower than that because the central bank will probably conduct large open market operations this week to absorb funds, said the trader at the U.S. bank.