China's phenomenal rise since 1978 has resulted from economic liberalisation, not monetary ease. But it is still not a fully fledged market economy, and monetary policy is compromised by Beijing's reluctance to let market forces guide interest and exchange rates. In a world of mobile capital, using monetary policy to peg exchange rates makes it more difficult to control inflation. Real economic development requires stable money and economic freedom, which expand the range of choices open to individuals. Inflation is now at a 12-year high. The consumer price index increased by 8.7 per cent in February from a year earlier, due primarily to higher food prices. The real threat to China's long-term price stability, however, is not higher food prices but excessive growth of money and credit. By undervaluing the exchange rate and keeping real loan rates artificially low, China risks fuelling inflation. Price controls designed to suppress inflation distort relative prices, create shortages and breed corruption. Although China announced a major change in its exchange-rate regime in July 2005, and told the world it would henceforth manage its currency by pegging to a currency basket as opposed to the US dollar, Congress has been impatient. Bipartisan legislation threatens to penalise China for 'currency manipulation'. Congress should recognise that it is in China's own interest to let the yuan appreciate at a faster rate, to avoid inflation. When the yuan's value in US dollars increases, it means the People's Bank of China does not have to create as much domestic currency to buy US dollars. In this way, money and credit growth can be tamed without administrative controls and without risking further inflation. Beijing's reluctance to let the yuan float means that monetary policy cannot be devoted solely to the task of preventing domestic price inflation. Indeed, that task becomes even more difficult as capital controls are relaxed or evaded, and as China's trade sector grows and financial innovation occurs. China needs a more transparent monetary policy aimed at achieving long-term price stability. Interfering with market prices - whether in the form of undervaluing the exchange rate, capping interest rates or controlling the relative prices of products, services and resources - weakens property rights, politicises economic decisions and leads to corruption. Those who administer the controls gain power, while the people lose wealth and freedom. Using capital and exchange controls, credit quotas and price ceilings to substitute for a transparent monetary policy aimed at price stability is becoming more costly, as China's economy grows and becomes more integrated with the global economy. The challenge for Chinese leaders will be to let go of the legacy of central planning and adhere to a market-based monetary policy that allows price flexibility while maintaining sound money and economic freedom. James A. Dorn is a China specialist at the Cato Institute and editor of the Cato Journal