In the fourth quarter of 2011, China's balance of payments saw a surplus in its current account and a deficit in its capital account. A surplus appeared in the capital account in the first quarter of this year. According to the State Administration of Foreign Exchange (SAFE), net inflow of foreign exchange witnessed a rebound since the beginning of this year, but it is still decreasing year on year. China's Balance of Payments Report for 2011 released by the SAFE said that China will continue to see a surplus, but the scale will be shrinking.

China's huge surpluses in current and capital accounts of the balance of payments had been reduced as a result of the rebalance of international economic circumstances and the appreciation of the yuan. Without a doubt, the yuan exchange rate is a key factor, said Liang Guoyong, an economic affairs officer from the Investment and Enterprise Division of the United Nations Conference on Trade and Development.

"The financial crisis was complicated by the euro-zone sovereign debt crisis, resulting in less capital inflow to China. However, the roughly 30 percent appreciation of the yuan against the U.S. dollar may exert a positive influence on the balance of payments, for it can alleviate the pressure from the double surpluses," Zhao Qingming, a financial expert, told Economic Information Daily.

Fudan University's renminbi exchange rate report says shrinking demand caused by the euro-zone sovereign debt crisis poses a severe threat to China's exports, and consequently undermines economic growth. Meanwhile, it's going to take some time before economic restructuring, tapping new sources of economic growth and expanding domestic demand come into play. An economic slowdown is inevitable in the short run. These factors will make the yuan continue to depreciate, but the room is quite limited.

"Some people fear that the stop of the yuan's appreciation may have a formidable impact. I think it's absolutely unnecessary. It's natural that the market doesn't take a fancy to the yuan in the context of an appreciating U.S. dollar, but the situation has not been fundamentally changed," said Zhao.

A driving force

The goal of China's administration on exchange rates is to reduce radical fluctuations and lower the risks of holding the yuan, which is beneficial for the internationalization of the yuan, said Ding.

Ding stressed that for many years, the appreciation of the yuan has been an important driving force behind its internationalization. However, in the days to come, the role of the exchange rate will be reduced. Instead, stability and profitability will become the main forces driving the currency to go global.

It is believed that backflow mechanism of overseas yuan funds will amplify the impact of offshore yuan prices to onshore yuan prices. Meanwhile, there is a possibility for speculative capital to make its way back to China. Given these concerns, the market-oriented reforms of the interest rate and exchange rate should precede the internationalization of the yuan.

On June 8, the PBC adjusted the upper limit of the floating band of deposit rates to 1.1 times the benchmark level and allowed the banks to offer 20-percent discount to borrowers. On July 6, the central bank expanded the floating band of lending rates, allowing banks to offer 30-percent discount to borrowers.

"Interest rate inherently interacts with exchange rate. If the marketization of interest rate cannot be carried out, neither can the marketization of exchange rate," said Ding.

Yuan Exchange Rate Reform

- April 16, 2012: The People's Bank of China, the central bank, widens the yuan's trading band against the U.S. dollar to 1 percent from 0.5 percent.

- June 19, 2010: The central bank proceeds with reform of the yuan exchange rate regime and improves its flexibility.

- April 10, 2008: The central parity rate of the yuan against the U.S. dollar breaks 7.0 and rises to 6.992.

- May 21, 2007: The central bank widens the yuan's trading band against the U.S. dollar to 0.5 percent from 0.3 percent.

- May 15, 2006: The central parity rate of the yuan breaches 8.0 per U.S. dollar and strengthens to 7.9982.

- September 23, 2005: The central bank widens the yuan's trading band against the non-U.S. dollar currencies from 1.5 percent to 3 percent.

- July 21, 2005: China unpegs the yuan from the U.S. dollar and shifts to a managed floating exchange rate regime based on market supply and demand with reference to a basket of currencies.

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