China deepening reform of RMB exchange rate

China's RMB exchange rate has remained relatively stable three weeks after the country surprised the world by abruptly appreciating its currency, the yuan, by a moderate 2.1 percent on July 21.

On Aug. 10, Zhou Xiaochuan, governor of China's central bank, the People's Bank of China (PBC), announced in Shanghai that the US dollar, euro, Japanese Yen and the won of the Republic of Korea constitute the basket of currencies that will act as a reference in determining the value of the RMB.

The move is aimed at reducing market expectations and reducing the uncertainties caused by expectations for further appreciation of the yuan, said Dr. Cao Honghui with the Financing Institute of the Chinese Academy of Social Sciences.

Ever since the revaluation of RMB, the yuan had closed at the highest level of 8.1128 and the lowest level of 8.0980 against one US dollar, fluctuating at around 8.11.

This showed that the yuan may either increase or decrease in value after the reform and not always appreciate as some people had expected before the revaluation.

Economists here said it is not easy for China to keep the yuan stable in consideration of the overseas expectations for further appreciation of the RMB, as overseas funds and "hot money" are reportedly anticipating China's further revaluation of the yuan.

"Whether China can reduce the impact of speculative capital inflow on the revaluation of the yuan determines not only the timing for China to take further moves to liberalize its exchange system, but also the success and failure of the current reform," said Li Yang, director of the Financial Institute of the Chinese Academy of Social Sciences.

Last week, the PBC adopted two more measures in a bid to support the RMB exchange rate reform, including allowing designated banks to sell foreign currencies to customers in a longer term and introducing swaps to the inter-bank market to better provide risk management tools.

Additionally, the State Administration of Foreign Exchange raised the limit on the foreign currencies accounts of current accounts of domestic institutions and the limits on the purchase of foreign currencies by Chinese individuals for personal use.

Analysts believe that the flexible exchange rate brings new uncertainties and increases business risks. They called on Chinese enterprises to enhance risk awareness and to adapt to the change as quickly as possible.

They warned that both Chinese banks and enterprises face more risks with the reform of the RMB exchange rate. Chinese enterprises should make adjustments in financial management, product development and marketing as soon as possible.

Experts warned that although the current situation is under the control of the central bank, it will face a more complicated job in the future if the country's trade surplus continues, hot money keeps flowing into China, or if there are changes in the country's macro-control policy.

The central bank said in its second quarter report that any further revision to the yuan exchange rate would depend on the financial environment with reference to the basket of currencies.

It pledged to maintain the "normal floatation" of the exchange rate and reiterated that it would also maintain the currency at a reasonable and balanced level.

The Chinese yuan had been pegged to the US dollar at a stable rate of about 8.27 to 1 for years before the sudden appreciation last month.

Chinese leaders have said on several occasions that it is a complicated job to reform the exchange rate regime and should be done gradually.