China to double yuan trading band against dollar

China announced over the weekend it would expand the daily yuan trading band against the US dollar beginning on Monday as the country pushes for a more internationalized currency and market-based financial sector.

The People's Bank of China (PBOC), the central bank, announced on Saturday that it would double the fluctuation bandwidth of the yuan's exchange rate against the US dollar to 2.0 percent above or below a daily reference exchange rate from its previous 1.0 percent limit, effective from Monday.

The move, which came earlier than the market had expected, signals that China is confident that its economy is stable enough to cope with a more volatile yuan and further reforms in the financial market, economists said.

"Expanding the trading range of the yuan against the dollar and facilitating the rate's two-way fluctuation can help sustain China's foreign trade and economic growth, as the country's economy is slowing down and its international payments is near balanced," wrote Bank of Communications economists in a note sent to the Global Times Saturday.

The last time the range was expanded was in April 2012, when the PBC doubled a bandwidth of 0.5 percent to 1 percent.

The central bank said in a statement that the yuan "does not have a basis for significant appreciation" after the range widened, noting that China's trade surplus represents only 2.1 percent of its GDP.

Also, the currency is not expected to depreciate either, the PBC said, because the country's financial risk is under control and it has plenty of foreign exchange reserves to cushion external shocks.

Analysts believe that the PBOC engineered a decline of the yuan from late February to early March, in order to shake off speculators who bet on the currency's appreciation to make profits. The purpose of that move, analysts said, was to leave a market with more rational traders and less risk of volatility when the band is widened.

Lu Ting, Hong Kong-based China economist at Bank of America-Merrill Lynch, said in a note sent to the Global Times over the weekend that the exchange rate of the yuan to the US dollar is very close to an equilibrium level, so neither appreciation nor depreciation would happen in the near term.

The yuan rose 2.9 percent against the greenback in 2013, and ended at 6.15 yuan per US dollar on Friday.

Liu Dongliang, a senior analyst at China Merchants Bank, told the Global Times Sunday that any further widening of the trading range will not be highly effective and is unlikely.

"A bandwidth of 2 percent is more than enough," he said.

"Now the central bank needs to consider loosening its tight grip on the central parity rate."

The widened bandwidth, which leads to more market-oriented pricing of the yuan, will boost sales of products such as yuan forex options, Liu noted.

Major moves in yuan exchange rate reform

Jan 1994

China began pegging the yuan to the US dollar and the yuan was allowed to float 0.3% above or below a daily reference exchange rate.

Jul 2005

The yuan peg to the US dollar was lifted.

May 2007

The central bank expanded the dollar/yuan trading band to 0.5 % from 0.3 %.

Apr 2012

The central bank doubled the yuan's trading band against the dollar to 1.0% from 0.5 %.

Mar 2014

The yuan trading band against the dollar widened to 2.0% from 1.0%.