China central bank suggests faster tempo for freeing yuan

Reuters

By Aileen Wang and Kevin Yao

BEIJING, Nov 20 (Reuters) - With a shift in tone andlanguage, China's central bank governor has dangled the prospectof speeding up currency reform and giving markets more room toset the yuan's exchange rate as he underlines broader plans forsweeping economic change.

The central bank under Zhou Xiaochuan has consistentlyflagged its intention to liberalise financial markets and allowthe yuan to trade more freely, even before the Communist Party'stop brass unveiled late last week the boldest set of economicand social reforms in nearly three decades.

But since the 60-point reform plan was released, Zhou hassuggested urgency in pushing for change, although he has notprovided any specific timetable. He promised on Saturday to"pull out all stops to deepen financial sector reforms".

Dariusz Kowalczyk, an economist at Credit Agricole in HongKong, said the governor's comments could mean that the People'sBank of China (PBOC) will widen the trading band of the yuan inthe near term.

"That probably means there is more upside for the renminbi,"he said. The yuan, also known as the renminbi, has risen thisyear to 6.09 per dollar from 6.23 at the end of 2012 and hit arecord high of close to 6.08 in October.

However, there was little evidence of any new found freedomfor the yuan in trading on Wednesday. On the one hand, thecentral bank set its daily fixing for the starting point of yuantrade at a record high, but dealers said open market gains werechecked by state-run banks selling the currency, probably onbehalf of the central bank.

In addition, the daily fixing has been consistently weakerthan the spot market, indicating the central bank is trying torein in the currency's strength.

"The PBOC is still intervening heavily to prevent the CNY(yuan) from appreciating more," said RBS economists Louis Kuijsand Tiffany Qiu in a client note, referring to dollar tradeinflows and speculation that are putting the yuan under pressureto rise.

"Freeing up the currency would imply a very largeappreciation versus the USD (dollar), something for which webelieve there would not be appetite right now."

"BASICALLY"

Zhou's latest comments were released as part of a publicguide book to the Communist Party's reforms, on sale inbookshops for 30 yuan ($5).

At more than 300 pages, it provides the full text of theCommunist Party's blueprint and an explanation of the changes byPresident Xi Jinping. It includes articles by top officials,such as Zhou.

In the guide book, Zhou says the central bank wouldgradually expand the yuan's trading band to help make thecurrency more flexible and market-driven - comments that repeata long-standing central bank position.

"We will widen the floating range of the yuan exchange ratein an orderly manner and increase the two-way flexibility of thecurrency," Zhou was quoted as saying.

To that end, the People's Bank of China will "basically" exit from regular intervention on the currency market, he said,going slightly further than in previous comments when he hadsaid it would reduce intervention.

For years, the central bank has bought up foreign exchange,mostly dollars, to curb strength in the yuan fuelled by thecountry's export engine, building the world's biggest currencystockpile of $3.66 trillion.

Such currency intervention has been a key driver of moneyand credit expansion, fanning inflationary risks and housingbubbles.

The yuan's trading band was last widened in April 2012 toallow the exchange rate to rise or fall 1 percent either side ofthe midpoint fixing announced daily by the central bank.

"We must seize the favorable time window to quicken the paceof realising yuan convertibility in capital account," Zhou said.

Full convertibility would allow the free movement of capitalacross China's borders, a demand of many of China's tradingpartners. The central bank has pledged to make the yuan"basically convertible" by 2015, but it has not made clear whatthat means.

Some analysts caution against high expectations for thespeed of financial reform, noting some policymakers fearallowing the currency to move freely too quickly could exposethe economy to volatile capital flows, such as the ones blamedon the U.S. Federal Reserve's economic stimulus programme.

Analysts expect the central bank to unveil a long-awaiteddeposit insurance system by the end of this year or early in2014 to pave the way for freeing up bank deposit rates, whichare now subject to administrative caps.

Such a scheme would protect depositors as Beijing isconcerned some smaller lenders could go under as banks competefor deposits in a more open regime. Earlier this year, thecentral bank removed controls on lending rates.

"We will choose a time when conditions are ripe to lifecontrols on deposit rates, which we think is the final step ofliberalising interest rates," PBOC Vice Governor Hu Xiaoliantold a forum in Beijing on Wednesday.

"FAVORABLE WINDOW"

The reforms are aimed at helping Beijing engineer a shift inthe giant economy away from investment- and exports-led growthto activity fuelled more by consumption and services.

The OECD, in forecasting China's economic growth would pickup to 8.2 percent in 2014 from 7.7 percent this year, urgedBeijing to quicken its reforms while growth is holding steady.

"There is now a favorable window," the Organisation forEconomic Co-operation and Development said in an update of itsglobal forecasts.

While the Communist Party leaders set the direction forreform in a four-day conclave that ended last week, it will beup to government ministries and agencies to put them intoeffect.

The head of the country's top economic planning agencypromised fast results in an interview with the People's Daily,the Communist Party's official newspaper.

"We should quickly launch a batch of projects in financial,oil, power, railway, telecommunications, resource exploration,public utilities to attract private-sector investment," XuShaoshi, chairman of the National Development and ReformCommission said.

Another senior official, Yang Weimin, vice head of theOffice of the Central Leading Group on Finance and EconomicAffairs, told a news briefing that reforms would help ease localgovernment debt, although he didn't explain how.

An explosion in local government debt accompanied Beijing'sresponse to the global financial crisis and many analysts see itas a major risk hanging over the economy.

Yang said the reforms would include more tax revenues forlocal governments, allowing qualified localities to sell bonds,and setting up a new policy bank to fund urban infrastructureand housing projects under Beijing's urbanisation drive.

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