Yuan Gains Double in 2007 as China's Central Bank Cools Economy

The yuan gained, heading for a 6.9 percent advance this year, as strategists raised their forecasts after China's central bank signaled faster gains are needed to cool the economy.

The currency advanced twice as fast as in 2006 as policy makers sought to curb inflation and cut a record trade surplus that has strained ties with the U.S. and Europe. It gained 0.9 percent this week, prompting ING Bank NV, Deutsche Bank AG and Lehman Brothers Holdings Inc. to adopt more aggressive yuan predictions, Bloomberg surveys show.

"The government will choose to use appreciation of the yuan to solve the inflation problem," said Shen Minggao, Citigroup's Beijing-based economist. "The appreciation pace may even quicken next year."

The yuan rose 0.18 percent to 7.3047 per dollar as of 2:50 p.m. in Shanghai, according to the China Foreign Exchange Trade System. The currency's gain this week was the biggest since the end of a dollar peg in July, 2005. The yuan touched 7.3035 per dollar, the strongest since the end of the link. Citigroup forecasts the yuan will rise 7.6 percent next year to 6.79.

The median estimate of 28 analysts surveyed by Bloomberg News is for a rate of 6.88 by the end of 2008. Forward contracts show traders are betting on an 8.5 percent advance in the yuan to 6.7279 in the next 12 months.

Trade Imbalance

China's trade surplus, which surged 52 percent in the 11 months through November to $238.1 billion, has driven foreign- exchange reserves to a record $1.46 trillion, making it difficult for the government to slow growth and tame asset-price inflation.

Gains in the yuan will help "lower import costs and curb low-end exports," Yao Jingyuan, chief economist of the National Bureau of Statistics, told a seminar in Beijing yesterday. The central bank said in a Dec. 21 statement it plans "forceful measures" to limit money supply, including a more flexible exchange rate. China allows the yuan to fluctuate 0.5 percent on either side of a daily rate set by the central bank.

The U.S. trade deficit with China is still set to exceed last year's record of $232.5 billion, prompting lawmakers including Senator Charles Schumer, a New York Democrat, to propose sanctions unless the yuan controls are loosened. U.S. Treasury Secretary Henry Paulson on Dec. 19 called for faster gains, while refraining from accusing China of manipulating its currency to make exports more competitive.

"We are under huge international pressure," said Lian Ping, chief economist at Shanghai-based Bank of Communications Ltd., the smallest of China's five major state-owned banks. "If we don't take some measures on our own initiative, the external market environment may worsen further."

Lian predicted a 7 percent gain in the yuan next year.

Euro, Real

While the yuan gained against the dollar this year, it dropped against 8 of the world's 17 most-active currencies. It slid 3.6 percent against the euro, 10 percent versus the Canadian dollar and 12 percent against the Brazilian real, pushing up import costs.

French President Nicolas Sarkozy, European Central Bank President Jean-Claude Trichet and Luxembourg Prime Minister Jean-Claude Juncker all visited Beijing last month to make their case for a stronger Chinese currency.

China's central bank this month raised rates for a sixth time this year to rein in credit growth, and lifted the reserve ratio to the highest in at least 20 years. The economy expanded 11.5 percent in the third quarter and consumer prices rose 6.9 percent in November from a year-earlier.

Money Markets

In the debt market, short-term lending rates rose as banks need to prepare funds for the New Year holiday. Treasury bonds were little changed.

"The supply of funds was a little tighter today as smaller banks need to borrow money to prepare for money withdrawals during the New Year holiday," said Zhao Feng, a fixed-income analyst with Industrial Bank Co. Ltd. in Shanghai. "In general, funds are still pretty loose."

The benchmark interbank seven-day repo fixing increased 0.19 percentage point to 2.47 percent, according to the National Interbank Funding Center. The Shanghai interbank offered rate, or Shibor, for two-week funding rose 6 basis points to 2.46 percent.

The yield on the seven-year treasury note held at 4.32 percent, according to the China Interbank Bond Market. The price of the 4.35 percent security due November 2014 was 100.15 per 100 yuan face amount.