Yuan suffers its biggest fall on record amid speculation over widening of trading band

Speculation over widening of the trading band is blamed, but analysts say central bank guided devaluation to temper expectations of investors

PUBLISHED : Saturday, 01 March, 2014, 12:03am
UPDATED : Saturday, 01 March, 2014, 4:47am

The yuan plunged to a 10-month low in its biggest daily fall on record yesterday.

It dropped 0.86 per cent to trade at 6.1808 against the US dollar, even after the People's Bank of China (PBOC) fixed the rate at 6.1214 yesterday morning.

It was the largest intra-day fall since China Foreign Exchange Trade System records started in 2007 and the biggest since the official and market exchange rates were unified in 1994.

The yuan ended the day at 6.1450, having lost 1.4 per cent in February - the biggest-ever monthly drop in the currency, according to Reuters.

Analysts said the fall was a response to speculation that the central bank would widen the yuan's trading band in the next few months.

This would have the effect of allowing greater volatility in the currency at a time when the world's second-largest economy was slowing.

Raymond Yeung, a senior economist at ANZ Bank, said the devaluation of the yuan was guided by the central bank, which had been setting a lower reference rate over the past few weeks.

He suggested the central bank "intended to tame expectations of a one-way rise in the yuan".

The yuan can trade as much as 1 per cent on either side of the reference rate set by the PBOC.

Mizuho Securities economist Shen Jianguang said the government-guided devaluation of the yuan would shake out investors drawn by the higher interest rates offered on the mainland. He said the prospect of higher interest rates had prompted inflows of hot money from players speculating on the yuan's unabated rise.

Industry insiders said a rising number of retail investors were using money borrowed in Hong Kong to buy yuan-denominated financial products across the border. Greater volatility in the yuan would therefore increase their investment risk.

DBS economist Nathan Chow agreed that the central bank's intervention reflected its desire to temper expectations of appreciation and counter hot money inflows as it prepares for the widening of the trading band.

A stronger yuan would also dampen China's export business, he added.

The wider trading band could be announced in the coming months after the National People's Congress and the Chinese People's Political Consultative Conference, which start in Beijing next week, Chow said.

Despite the possibility of greater volatility in the yuan exchange rate, expectations of an appreciation of the yuan against the dollar would remain unchanged, said Chow, estimating the yuan was likely to rise to 5.97 by the end of this year.