The Chinese yuan, also known as the renminbi, is already convertible under the current account - the broadest measure of trade in goods and services. However, the capital account, which covers portfolio investment and borrowing, is still closely managed by Beijing because of worries about abrupt capital flows.
Economists expect 5pc gain against greenback
The yuan is expected to appreciate 5 per cent against the US dollar by 2015, a more gradual pace than in recent years, amid a slowdown in mainland economic growth and financial reforms designed to allow more two-way fluctuations in the exchange rate, economists say.
The yuan is set to reach about 5.80 per dollar, strengthening from the current level of about 6.11, according to the median forecast in a poll of 11 economists conducted by the South China Morning Post.
A stronger yuan is a double-edged sword as it would erode the competitiveness of exporters by making their goods more expensive, but at the same time increase their domestic buying power.
The currency has appreciated nearly 38 per cent over the past three decades, and now economists say it is time for a slowdown, thanks to weaker fundamentals on the mainland.
The central government has been caught in a dilemma - allowing the yuan to appreciate would make imports cheaper but at the expense of higher export prices.
Beijing has been buying dollars to curb the overly rapid appreciation of the yuan, despite its promise to trim the nation's huge trade surplus.
It set the daily fixing for the exchange rate at the highest level since 2005 early this month, seen by independent economist Andy Xie as a move to prevent capital flight from the country.
Beijing also faces the challenge of managing its massive and growing foreign exchange reserves, the world's largest at more than US$3 trillion and counting.
Some economists have said the central bank may want to lower its reserves to between US$1 trillion and US$2 trillion so that it can manage them in a more efficient manner than printing more yuan to absorb capital inflows, because of its strict controls over foreign exchange.
Beijing's ambitious plan to create the mainland's first free-trade zone in Shanghai, which the central bank wants to use as a test ground for full convertibility of the yuan on the capital account, reflected the new thinking of policymakers, some analysts said.
With its new mindset, Beijing might be happy to see wider fluctuations of the currency to reflect market supply and demand, they said.
Economists said the mainland wanted its currency to continue to rise to ward off higher inflation and prevent capital outflows in response to the US Federal Reserve's future winding-down of quantitative easing. Most see a gradual upside for the yuan in coming years.
Lian Ping, the chief economist at Bank of Communications, said that excluding political reasons, there was still more room for appreciation as the mainland still ran a large trade surplus, especially with the United States.
The trade surplus bottomed out at 2.1 per cent of gross domestic product in 2011 and rebounded to 2.8 per cent last year, according to official figures. It has continued to widen this year, hitting US$28.6 billion last month.
"I believe the yuan is likely to appreciate at only a modest rate against the dollar in future," said Invesco chief economist John Greenwood, best known in Hong Kong as the architect of the local currency's peg to the US dollar.
"Over the past few years, big wage increases in China, a falling producer price index and a much-reduced current account surplus all suggest that China has lost some of its competitiveness compared with five years ago."