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Renminbi rises to 18-year record on inflation fears

06 Apr 2011

The renminbi has reached its strongest ever against the US dollar since 1993 this morning, hitting Rmb6.545. The strengthening is seen as a move by Beijing to counter the cost of basic commodities becoming more expensive to import.

The Chinese currency was fixed at Rmb6.545 against the US dollar by the People’s Bank of China yesterday (April 6), its highest level since 1993, as the central bank moved to contain rising import prices amid sustained economic momentum.

China's central bank controls the value of the renminbi versus other currencies, intervening in the market to ensure that it does not stray beyond its predetermined boundaries.

Strategists argue that the PBoC decided to raise the value of the currency just one day after raising interest rates because it believes that the economy is enjoying sustained growth, and to offer a clear signal that China intends to fight off imported inflation.

The high fixing is in line with increasing commodity prices.

“Perhaps we are entering a period of faster renminbi gains as commodity prices have risen sharply this year. This would [fit] news the State Information Center said that risk of imported inflation and appreciation pressure on renminbi is rising,” said Dariusz Kowalczyk, economist and strategist at Crédit Agricole CIB.

The non-deliverable forward market subsequently priced in faster appreciation of the renminbi, implying a 2.2% gain over one year. Some banks are predicting that China’s currency will reach around Rmb6.30 against the US dollar by year end.

The strong fixing comes one day after the PBoC raised benchmark interest rates for the second time this year, in a bid to tackle inflationary pressures.

Both the one-year lending and deposit rates were shunted up 25 basis points (bp), to 6.31% and 3.25%, respectively.

“While [one-year] deposit and lending rates were increased by the usual 25bp, the average increase for other tenors was relatively low, which suggests that we are past the most aggressive tightening phase and behind the midpoint of the cycle,” Kowalczyk said.

Most banks agree that China will continue to raise rates to curb inflation this year.

Citi, for example, is arguing the case for two more rate hikes in the coming two quarters, meaning four hikes of the central bank’s policy rate for the whole year.

Economists believe that such increases are not before time.

“The PBoC has been lagging the curve in rate hikes on two key worries: First, the rising financial burdens to those projects started under the stimulus may result in bad loans; second, [the] widening interest rate gap between China and the US will invite hot inflows. The delayed rate hike is more of policy normalisation rather than tightening,” said Minggao Shen, economist at Citi in Hong Kong.

06 Apr 2011