Analysts predict stronger currency as Chinese economy picks up steam

China's central bank guided the nation's currency to an all-time high on Wednesday, as dovish comments from the Federal Reserve put downward pressure on the US dollar and eased fears of capital outflow from emerging markets.

The People's Bank of China set the yuan's reference rate at 6.1305 per US dollar, 10 basis points higher than the 6.1315 a day earlier.

The PBOC provides a daily rate to guide the market away from instability. The fluctuation band is set at 1 percent south and north of the reference rate.

"A weaker dollar helped shore up the yuan today," said Lian Ping, chief economist with Bank of Communications Ltd.

Federal Reserve Bank of Chicago President Charles Evans recently revised up his forecast of Fed asset purchases and suggested a sharp cut in the unemployment level that would be associated with monetary tightening. Outgoing Fed Chairman Ben Bernanke also highlighted the Fed's commitment to a "highly accommodative" policy and his agreement with Fed Chair nominee Janet Yellen that it should "do all we can today to promote a more robust recovery".

Dariusz Kowalczyk, a Hong Kong-based currency strategist with Credit Agricole CIB Asia Research, wrote in a research note that the "dovish" language by the Fed should reduce fears of capital outflow from emerging markets, helping Asian equities and currencies rise.

The Bloomberg US Dollar Index, which monitors the greenback against 10 major peers, was little changed at 1,014.94 on Wednesday after touching 1,013.11 on Tuesday, its lowest point since Nov 6. The gauge had weakened 0.4 percent over the previous three days.

Lian said the yuan's movement against the dollar will be upward the rest of the year, as the Chinese economy regains momentum after a slowdown in the first half, and the Fed seems in no hurry to stop cheapening the greenback. But any appreciation will be gradual, he added, and the rate won't step into "5 territory," as many had expected.

The yuan's movement will be "two-way," Lian said, and cautioned against interpreting the central bank's decision to trim market guidance as a sign of one-way appreciation.

Hu Xiaolian, deputy governor of the People's Bank of China and the former director of the State Administration of Foreign Exchange in China, said in a speech at a Beijing forum on Wednesday that the yuan's two-way movement should be boosted

The flexibility of the foreign exchange formation mechanism has increased since the reform of 2005, which fostered innovation and China's core competitiveness in the corporate world, she said.

"We need to further tap the depth and width of the foreign exchange market and boost the elasticity of the yuan's two-way fluctuation," Hu added.

In a new book explaining the reform blueprint outlined last week following the meeting of Party leaders, central bank governor Zhou Xiaochuan wrote that the bank plans to liberalize foreign exchange policies and open the capital account. Plans include a managed market based on a floating foreign exchange regime, widening the daily trading band, enhancing two-way volatility and basically exiting daily guidance.

"Our take is that the horizon is not immediate but long-term (by 2020)," wrote Kowalczyk, the Credit Agricole CIB analyst.

Over the next few months the band will be widened to 1.5 to 2.0 percent around daily fixing. By 2020, the yuan will float in a fairly tightly managed way, according to Kowalczyk.

gaochangxin@chinadaily.com.cn

(China Daily USA 11/21/2013 page14)