Yuan ends lower as PBOC signals two-way trading, displeasure with U.S.
* PBOC sets sharply weaker yuan mid-point
* China not expected to go too far in letting yuan correct
* Traders believe widening trading band may be on agenda
* Widening trading band may help ward off yuan criticism
* Yuan at 6.3820, up 3.25 pct so far this year
By Lu Jianxin and Jacqueline Wong
SHANGHAI, Oct 13 (Reuters) - The yuan closed lower on Thursday after China's central bank set a sharply weaker mid-point which traders said signalled two-way trading as well as displeasure with the U.S. Senate's approval of a bill pressing it for greater yuan appreciation.
China was not expected to let the yuan pull back too much after the currency's 3-plus percent appreciation against the dollar this year.
While the government will resist U.S. pressure, traders say it is not likely to let the relationship deteriorate in a currency or trade war where both sides only stand to lose.
Instead, the People's Bank of China appears to be using the occasion to test the waters for a possible widening of the yuan/dollar trading band by permitting the yuan to hit the lower end of its daily trading limit many times since last September.
Letting the yuan fluctuate in a wider range could help ward off criticism that the exchange rate system is too rigidly managed.
In the event that China's foreign trade encounters problems, a wider trading range will also enable the PBOC to let the yuan depreciate, traders said.
"Given its dominance in China's domestic market, the PBOC could easily check the yuan's recent volatility but it has not done that," said a trader at a U.S. bank in Shanghai.
"So the central bank is probably testing waters for a wider yuan/dollar trading range. Such a widening is good for China under the current unstable global economic conditions."
Spot yuan closed at 6.3820 from Wednesday's close of 3.3585. It has still appreciated 3.25 percent since the start of this year and 6.96 percent since it was depegged from the dollar in June 2010.
The PBOC set its mid-point against the dollar weaker at 6.3737 compared with Wednesday's 6.3598. The central bank uses the reference rate, from which the dollar/yuan exchange rate may rise or fall 0.5 percent each day, to signal the government's intentions for the yuan.
TRADER SURPLUS NARROWS
The U.S. Senate approved a controversial bill on Tuesday aimed at forcing Beijing to push the yuan higher against the dollar, which supporters argue would reduce a U.S. trade deficit with China of more than $250 billion.
Although the fate of the bill is uncertain, it has drawn sharp rebukes from Beijing. The central bank argued that a stronger yuan would not on its own reduce the bilateral trade imbalance nor save American jobs.
Offering China ammunition to resist U.S. pressure on the yuan and reflecting global economic weakness, data on Thursday showed China's trade surplus narrowed in September for a second month in a row as growth of exports and imports both fell below forecasts.
"The shrinking trade surplus and easing imported inflation may reduce some pressure for Beijing to quicken the pace of yuan appreciation," said Du Zhengzheng, analyst At China Development Bank Securities in Beijing.
"With exports growing at a slower-than-expected pace, I think Beijing could slow down the pace of nudging up the yuan in the coming months for fear of hitting its exports too much, especially when external demand is weakening.
"But the main direction for Beijing's yuan regime reform would not be changed, which is to widen the trading band and guide two-way movements."
In a sign of possible changes ahead, the official China Securities Journal said on Thursday that the time might be ripe for China to widen the yuan's trading band.
In line with the spot market, one-year dollar/yuan non-deliverable forwards (NDFs) rose to 6.4050 bid in late trade from 6.3710 at the close on Wednesday.
They implied yuan depreciation of 0.49 percent in 12 months from Thursday's PBOC mid-point, compared with depreciation of 0.04 percent they implied on Wednesday.
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