China Yuan Reference Rate Falls Most Since August 2010 After Trade Deficit

China’s central bank weakened its daily fixing for the yuan by the most since August 2010 after the government reported the biggest trade deficit in at least 22 years.

The currency fell the most in seven weeks as People’s Bank of China Governor Zhou Xiaochuan said in Beijing the exchange rate is linked to the balance of payments. The nation’s trade shortfall was $31.5 billion in February, four times the previous largest deficit, according to data released on March 10 by the customs bureau. The central bank will use exchange rates and interest rates to manage the economy as Europe’s debt crisis damps global demand, it said in a statement today.

China has allowed the yuan to fall 0.5 percent this year after a 4.7 percent advance in 2011. The nation’s growth slowed in the first two months of the year, with both exports and domestic demand moderating faster than analysts had forecast, building the case for Premier Wen Jiabao to accelerate stimulus measures. Wen, 69, who will close the annual National People’s Congress this week, may slow the pace of yuan gains as policy makers seek to aid exporters.

“The first three to four months, you will have a repeat of the 2008 situation where the exchange rate is flat,” said Cliff Tan, East Asia head of global currency research at Bank of Tokyo-Mitsubishi UFJ in Hong Kong. “Once the European problem moves off the front burner, risk-taking will come back and we will see a new pattern of fixing to allow a catch-up with 5 percent annual gains.”

The reference rate was set 0.33 percent lower at 6.3282 per dollar. The currency can move 0.5 percent either side of the fixing. The yuan declined 0.25 percent to 6.3265 in Shanghai, the biggest loss since Jan. 20, according to the China Foreign Exchange Trade System.

‘Balanced Level’

In Hong Kong’s offshore market, the yuan weakened 0.2 percent to 6.3173. Twelve-month non-deliverable forwards fell 0.3 percent to 6.3165, a 0.2 percent premium to the onshore spot rate, according to data compiled by Bloomberg.

The government will keep the exchange rate “basically stable at an appropriate and balanced level,” Wen said in the opening speech to the NPC on March 5. He announced an economic- growth target of 7.5 percent for 2012, the first time below 8 percent since 2004.

Yi Gang, head of China’s State Administration of Foreign Exchange, said at a central bank press briefing in Beijing today that conditions are ripening for the yuan’s exchange rate to reach equilibrium. Governor Zhou said the market is playing a bigger role in the exchange rate and that more time is needed to see a trend in China’s trade deficit.

Increasing Volatility

One-month implied volatility, a measure of expected currency swings used to price options, climbed to 2.2 percent, the most in two months. The daily trading band may be widened while the currency is moving “very close” to a “balanced level,” Xinhua News Agency reported last week, citing PBOC’s Zhou.

“When you have conditions like this where markets have elevated volatility and the external outlook isn’t that clear, the PBOC tends to fix the yuan quite randomly,” Andy Ji, a foreign-exchange strategist in Singapore at Commonwealth Bank of Australia. (CBA) “They will try to move the yuan lower. We expected exports to slow.”

To contact the reporters on this story: Kyoungwha Kim in Singapore at kkim19@bloomberg.net; Lilian Karunungan in Singapore at lkarunungan@bloomberg.net

To contact the editor responsible for this story: Sandy Hendry at shendry@bloomberg.net

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