China is quietly adjusting its policy on the yuan, letting it appreciate a little faster and setting the stage for a possibly wider trading band, traders and analysts said after a recent surge in the currency's value.
Between Tuesday last week and Thursday, the yuan climbed 0.64 percent against the dollar to a close of 7.8965, its fastest rise in any period of eight trading days since it was revalued by 2.1 percent and freed from a peg to the dollar in July 2005.
Although the yuan fell back on Friday, analysts said the record appreciation -- which coincided with the maiden visit of U.S. Treasury Secretary Henry Paulson to China, sent a strong signal that Chinese currency policy was shifting.
It is clear that the central bank is quietly allowing the yuan to rise faster, and the move has coincided with renewed international pressure, said economist Wang Haoyu at First Capital Securities in Shenzhen.
A dealer at a major Chinese state bank added: The policy has changed to some extent, and the central bank is paving the way for a wider trading range for the yuan.
The silence on the central bank's part doesn't mean there are no policy adjustments.
China has in the past resisted foreign pressure for faster appreciation, and nobody disputes it is setting policy mainly according to its own economic needs.
But tighter monetary policy over the past six months has only partially succeeded in restraining breakneck money supply growth, so currency appreciation has become an increasingly attractive tool to moderate the economy.
Meanwhile, signs from the United States have suggested that Washington and Beijing may have reached some kind of tacit understanding on the yuan.
Paulson is believed to have discussed currencies in Beijing last week, but he carefully avoided the confrontational rhetoric used by some U.S. officials in the past, saying instead he aimed for a new tone in cooperation with China.
And after meeting Paulson on his return to Washington, two U.S. senators announced on Thursday that they were dropping legislation threatening China with punitive tariffs if it did not permit faster yuan appreciation.
This caused the market to speculate that Paulson communicated to the senators a new U.S.-China consensus -- one in which Beijing undertook to allow somewhat faster appreciation in return for a reduction in U.S. pressure over the issue.
Asked about this speculation, a Chinese central bank official told Reuters on Friday that the bank had no new policy statement about the yuan, and declined to comment further.
But analysts said both governments were unlikely to publicly confirm any understanding that did exist, in order to preserve their room for maneuver as economic conditions and the policy environment changed in the future.
The recent quicker yuan appreciation may be a face-giving gesture to U.S. politicians, but it goes far beyond that, said a dealer at a European bank, adding that it could mark the start of a period in which quibbling over the exchange rate was no longer central to U.S.-China ties.
Any understanding on the yuan probably does not involve dramatically faster appreciation, which could destabilize China's export industries, analysts said.
Many expect a rise of between 3 percent, roughly the gap between U.S. and Chinese interest rates, and 5 percent over the next 12 months.
That would be roughly twice the pace of the yuan's 1.6 percent rise in the first 12 months after its revaluation, but still slower than many currencies' movements in global markets.
One-year offshore non-deliverable forwards used for long-term bets on the yuan's movement, were quoted at 7.6510 early on Friday afternoon, implying appreciation of 3.3 percent over the next 12 months. Forwards have not shifted sharply over the last several weeks.
The yuan fell back to 7.9070 against the dollar on Friday afternoon, and traders noted that in the short term, a further pullback could be in store.
The central bank is keen to encourage two-way volatility in order to discourage speculators from pouring hot money into the country in one-way bets. The pullback could, therefore, easily extend to 7.94 or even 7.95 early next month, some traders said.
Analysts, however, believe a widening of the yuan's trading band may be on the cards as part of a U.S.-China understanding. Currently, the yuan may rise or fall 0.3 percent from a daily mid-point set by the central bank.
The band makes little difference to the speed of yuan appreciation, the market rarely even approaches the edge of the bands, and the central bank is able to engineer any pace of appreciation that it wants simply by setting mid-points.
But widening the band would be a positive gesture to U.S. politicians, while helping China's foreign exchange market become deeper and more closely resemble developed markets.