China announced on Saturday that it would resume making the yuan more flexible, signaling that it was ready to break a 23-month-old peg to the dollar that had come under intense international criticism.
But in a lengthy statement about how reform would proceed, the central bank explicitly ruled out a one-off revaluation, repeatedly said there was no basis for any big appreciation and added that the currency's value was not far off its fair level.
Lack of a real rise in the exchange rate provided ammunition for critics, especially hawks in the U.S. Congress, who say Beijing's actions will speak louder than its words and that penalties should be imposed if it keeps the yuan artificially cheap.
Just a day after there was much hoopla about the Chinese finally changing their policy, they are already backing off. It vindicates our initial skepticism, Senator Charles Schumer, a prominent China critic among U.S. lawmakers, said in a statement.
We intend to move forward as quickly as possible with legislation.
However, other leaders of the United States, the European Union and Japan, among others, welcomed China's vow to deepen yuan reform as a hopeful contribution to rebalance a world economy in which China relied heavily on exports for growth, while the United States went deep into debt to drive spending.
All eyes on Monday will be on the daily reference rate set by the Chinese central bank to manage the yuan's value. Many economists believe that Beijing will nudge the exchange rate higher in increments, not leaps.
Global equity markets may rally as the news, coming a week before a summit of leaders from Group of 20 nations in Canada, eases fears of a trade row between the United States and China at a delicate time for the world economy.
The central bank on Sunday promised to implement dynamic management and adjustment, which could lead to the yuan falling, not just rising, against the dollar depending on how other currencies perform.
But the crux of the exchange rate system would be the same as it had been previously, meaning that the yuan is likely at most to return to the path of gradual gains against the dollar seen for three years until mid-2008.
Keeping the yuan basically stable at a reasonable and balanced level is an important part of further promoting reform of yuan exchange rate formation mechanism, the People's Bank of China said, adding that gradual adjustment was needed in order to give firms time to adjust.
Chinese economists said the move was justified economically and, above all, had a political aim.
This important declaration by the Chinese government coming before the G20 summit is a big concession to prevent the yuan's exchange rate from being politicized by Western countries, said Gao Shanwen, chief economist at Essence Securities in Beijing.
China said that freezing the yuan to the dollar since July 2008 had helped mitigate the impact of the global financial crisis and spur the world's recovery.
With the economy on a more solid footing, it was time to enhance the exchange rate's flexibility, though there were no grounds for large-scale appreciation, it said.
SURPRISE AND CONTROVERSY
The European Central Bank and Jean-Claude Juncker, who heads the Eurogroup of euro zone finance ministers, welcomed in a joint statement China's decision on the yuan, which is also known as the renminbi or RMB.
Given China's important role in the global economy, we encourage the authorities to allow for greater flexibility of the RMB effective exchange rate as a means of promoting balanced growth in China and in the world economy, they said on Sunday.
European leaders have generally been less strident than those in the United States as the euro has fallen sharply against the Chinese currency, buying only 8.45 yuan now compared with almost 11 in July 2008.
This helped euro zone exporters through the financial crisis. Last year exports from the bloc to China grew 4 percent, while those to the United States fell close to 20 percent.
Markets have long been waiting for China to break the yuan's peg to the dollar, but the timing still came as something of a surprise. A day earlier, senior officials had stressed China would not be bullied into resuming yuan appreciation.
The country's major newspapers carried no real reports of the policy about-face, just reprinting the central bank's statement verbatim.
The lack of articles and commentaries for the time being likely reflected a push by the government to get everyone on message about what could be a controversial policy change.
On a few websites, readers still made their views heard.
This is such worrying news! China, you have surrendered! wrote one online reader of the Global Times, a popular tabloid.
We're so well-behaved, doing whatever the United States asks of us, wondered another, sarcastically.
Whether U.S. critics of China's currency regime will agree remains to be seen.
Beijing has faced a barrage of complaints from abroad for keeping the yuan artificially cheap even as the country's export juggernaut roared back to life.
Much of the rest of the global economy remains sluggish and beset by unemployment in the wake of the financial crisis, and China's policy is seen as stealing jobs from foreign markets.
U.S. patience with Beijing over the yuan has worn thin and lawmakers threaten to penalize it for a strategy they say is unfair and breaks global trade rules.
U.S. Treasury Secretary Timothy Geithner, who has delayed publication of a potentially embarrassing report that could cite China as a currency manipulator, stressed that China's actions would speak louder than words.
This is an important step, but the test is how far and how fast they let the currency appreciate, he said.
(Additional reporting by Ben Blanchard; Editing by Benjamin Kang Lim, David Stamp, Jon Loades-Carter and Paul Simao)