Excessive Yuan Move May Hurt Economy, Regulator Yi Says

China should prevent any excessive adjustment of the yuan’s exchange rate to protect the economy even as volatility increases, the head of the nation’s currency regulator said in remarks published today.

“Historical evidence shows it’s possible to see the exchange rate overshooting when a currency approaches an equilibrium level, which would hit the economy badly,” Yi Gang, head of the State Administration of Foreign Exchange, said in an interview with Century Weekly, published by Caixin Media. “We can’t rule out the possibility of this happening in China and we should strictly guard against it.”

Policy makers in the world’s second-biggest economy have pledged to allow the market to play a larger role in setting the yuan’s exchange rate and let the currency flow freely across borders for investment purposes. The central bank last month widened the yuan’s daily trading band against the U.S. dollar to 1 percent from 0.5 percent, the first such increase since 2007.

Market participants need to brace for more exchange-rate risk as the Chinese currency will see greater two-way volatility after the band widening, said Yi, who is also a deputy governor of the People’s Bank of China. The publication didn’t give the date of the interview.

U.S. Treasury Secretary Timothy F. Geithner said May 4 that the yuan still needs to appreciate further against the dollar and other currencies. Even so, China has “significantly” reduced its intervention in the currency market, Geithner said at a press conference in Beijing after talks with Chinese officials.

In his interview, Yi reiterated that the yuan is no longer “obviously” undervalued and is gradually approaching an “equilibrium level.”

China may still see capital inflows in the short term given the interest-rate spread between the yuan and U.S. dollar, Yi said. The benchmark federal funds rate in the U.S. is in a range of zero to 0.25 percent while China’s one-year deposit rate is 3.5 percent.

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