New economic challenges for China hamper currency's rise


New economic challenges for China hamper currencys rise

SHANGHAI - At a time when the world's top athletes strive to set records at the Beijing Olympics, the Chinese currency has unexpectedly put on hold its steady move towards new highs.

By (AFP)

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Published: Sun 10 Aug 2008, 3:18 PM

Last updated: Sun 5 Apr 2015, 11:51 AM

Over the past nine trading days, the yuan has declined against the US dollar six times, throwing into doubt the conventional wisdom that its strengthening was the inevitable result of China's rise as an economic world power.

"The current noticeable weakening in the yuan has never happened before," said Liu Dongliang, a Shenzhen-based foreign exchange analyst with China Merchants Bank.

"Previously, when the dollar rebounded, the yuan would either move sideways or appreciate more slowly," he said.

As a result, the yuan has declined nearly 0.70 percent against the American currencyfrom a closing peak of 6.8113 hit on July 16, ending at 6.8588 on Friday.

The markets appear to be betting that this is more than a short-term phenomenon.

Non-deliverable forwards, which reflect expectations for future movements in the exchange rate, show a decidedly less bullish mood on the Chinese currency.

While in March, non-deliverable forwards still implied a forecast of an 11.5 percent strengthening of the yuan against the dollar, it has now fallen to a modest 3.4 percent, according to Capital Economics, a London-based consultancy.

Although the US dollar has generally strengthened on a global scale, this may only be part of the explanation of why the yuan has weakened.

Subtle changes in the economic conditions facing China may be the real reason, according to economists.

"We attribute it to the shift in domestic policy -- the central bank has adjusted its policy for a slower speed in appreciation," said China Merchant Bank's Liu.

"The signal from central bank's statement for second-quarter monetary policy meeting is quite clear. The change in phrasing is obvious."

The central bank statement, issued last month, said it would "use various monetary policy tools to create good conditions for stable, relatively fast growth," while mentioning in passing that "upward pressure on prices is clear."

This was a change from the first-quarter report in which the central bank had placed its priorities squarely on fighting inflation, and it reflected changes in macroeconomic dynamics.

China's economy expanded by 10.4 percent in the first half and 10.1 percent in the second quarter, the National Bureau of Statistics said earlier this month, down from growth of 11.9 percent recorded for all of 2007.

Growth in the consumer price index peaked at 8.7 percent in February -- nearly a 12-year high -- but softened to a more manageable 7.1 percent in June.

This removed some of the rationale for a continued strengthening of the yuan, which had been to ease inflation by lowering the prices of imported goods.

At the same time, a slowdown in the rise of the yuan might comfort the export sector, which is suffering from the weakened global economy.

In the first half of the year, the trade surplus declined nearly 12 percent from the same period in 2007.

"We do not believe the Chinese authorities will defy the law of gravity' to engineer a sustained renminbi depreciation despite persistent forex inflow," Morgan Stanley economist Qing Wang said in a research note.

"(But) it is likely that the central bank may fine-tune its intervention policy to effect a slower appreciation in the short run."

However, amid the decelaration in the appreciation of the yuan, some economists see this as a minor bump on the road of the Chinese currency to new heights.

"The economy is still in good shape, with consumption spending and export growth both much stronger than almost anyone expected a few months ago," Capital Economics analyst Mark Williams said in a research note.

"The arguments in favour of appreciation pre-date recent concerns over inflation. Simply put, China cannot rebalance its economy with a severely undervalued currency. We expect rapid... appreciation to continue."

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