* China allows banks to freely set OTC yuan/dollar rates
* Sign that Beijing is confident yuan is reaching
* Retail demand will influence main interbank rates
* Corporate clients will have better choices to obtain FX
(Repeats to fix formatting, adds details, quotes, analysis)
By Lu Jianxin and Pete Sweeney
SHANGHAI/BEIJING, July 3 China has permitted
banks to freely set their own exchange rates for the yuan
against the dollar in over-the-counter transactions -- another
step toward freeing the exchange rate from government control.
Banks were previously required to price the yuan/dollar rate
they offered retail clients within 3 percent in either direction
of the Chinese central bank's midpoint on a given day.
"The liberalisation of the retail market implies that the
PBOC believes that the yuan has now reached equilibrium," said
analyst Cao Yang at Shanghai Pudong Development Bank.
Such equilibrium permits the central bank to gradually free
the yuan's exchange rate without worrying about excessive
volatility, he said.
The new rules do not apply to the yuan/dollar's main rate in
the interbank market, which is subject to controls
including the central bank setting a daily midpoint
from which the spot rate has been allowed to fluctuate in either
direction by 2 percent since March.
Under the new policy, effective immediately, banks can price
OTC yuan/dollar exchange rates "in line with market supply and
demand and without any restrictions", the People's Bank of China
(PBOC) said in a statement published late on Wednesday.
The move "is aimed at further perfecting the mechanisms to
establish market-oriented exchange rate for the yuan," the
central bank said in the statement.
However, the wholesale market that the banks trade in must
still abide by the midpoint guidance rate. Because that primary
market is an enormous source of forex supply and demand, posting
around $15 billion in transactions every day, it will continue
to exercise a strong influence on the retail market.
The world's second-largest economy is seeking to increase
the use of the yuan in global trade and investment to diminish
China's dependence on the U.S. dollar, and by extension its
exposure to economic policy decisions made in Washington outside
of its control.
Allowing the market to price the yuan against the dollar is
a pre-requisite for wider liberalisation, and at the same time
decreases the need for Beijing to accrue dollar reserves in the
name of managing the exchange rate.
The PBOC has purposefully guided the yuan to stage more
two-way trading over the past couple of years, letting the yuan
appreciate 2.9 percent versus the dollar in 2013, only to push
it down as much as 3.4 percent this year to convince the market
not to consider the currency a one-way bet on appreciation.
TESTING THE WATERS
With the first market-oriented yuan/dollar exchange rates in
the OTC market, the central bank can collect data on dollar
supply and demand from major state banks, traders said.
"Retailing is also an important indicator for yuan/dollar
demand and supply and reflects sentiment towards these
currencies," said a senior dealer at a major European bank in
"As such, the OTC exchange rates will have influence on the
interbank rates and help banks discover market-oriented rates."
Chinese companies, which obtain foreign currencies both at
the interbank market and with a less degree, via banks' OTC
channels, welcomed the move.
"The opening will have a positive impact on corporate
foreign exchange deals," said Wang Xinjiu, Securities Affairs
Representative at China International Marine Containers (Group)
Co , the world's top container producer.
"Companies, just like individuals, will have better channels
to meet their foreign exchange demand with more reasonable
exchange rates," he said.
The latest reform step comes ahead of bilateral economic
talks between the United States and China later this month,
during which U.S. officials are expected to raise their concerns
about Beijing's interventions in the currency market.
Critics say China artificially suppresses the value of the
yuan to protect its exporters, an accusation China has always
U.S. Treasury Secretary Jack Lew, who will attend the
Strategic & Economic Dialogue in Beijing later this month, said
on Tuesday the yuan's value is a "very big issue" for the United
States and that the currency needs to appreciate more.
Robert Minikin, forex strategist at Standard Chartered in
Hong Kong, said he believed that Beijing is also preparing to
change the way it manages the market in general, and that the
freeing of the retail market could be a step in this direction.
"There are some hints that the PBOC is changing the way it
is managing the FX market, and in particular the way the daily
fix is managed. We may be moving toward a more market-driven
daily fix rather than one set by the authorities."
Minikin was referring to a common complaint by participants
in China's forex market, namely that the central bank has used
the daily midpoint fixing as a leash to control market movements
instead of an indicator of consensus price.
Economists have pointed out that so long as Beijing
continues to set an official midpoint rate, it retains a tool
for controlling the exchange rate; and so long as the interbank
market is restrained by a trading band, the market is not truly
(Additional reporting by China economics team; Editing by Kim