China should stop intervening in FX market and let yuan float: researcher

SHANGHAI (Reuters) - China should stop intervening in the foreign exchange market, devalue the yuan and let it float freely to restore stability, a senior researcher at a government-backed think tank said.

A 100 Yuan note is seen in this illustration picture in Beijing March 7, 2011. REUTERS/David Gray/File Photo

Xiao Lisheng, a finance expert with the Chinese Academy of Social Sciences, made the remarks in an article on Monday in the official China Securities Journal amid a growing debate among the country’s economists on whether authorities should let the closely-managed currency trade more freely.

The yuan lost 6.6 percent against the dollar last year, the biggest annual loss since 1994.

“The more the government delays the release of depreciation pressure, the greater the impact and destructive power of the release of depreciation pressure will be,” Xiao wrote.

The authorities should “let the yuan exchange rate have a one-off adjustment to realize a free float” of the currency, he said.

The yuan is allowed to trade in a band of 2 percent on either side of a daily reference rate managed by the central bank.

Authorities have said repeatedly there was no basis for continued depreciation of the unit, but many currency strategists predict a further weakening this year if the U.S. dollar remains strong, spurring further capital outflows from China.

Xiao said the current mid-point formation mechanism, adopted in 2015, is still immature and in transition, although it has eased depreciation pressure and curbed sharp declines in the country’s foreign exchange reserves.

“But any foreign exchange rate mechanism without a free float cannot fundamentally reach a market clearing (price),” he wrote.

The mechanism for setting the daily reference rate was adopted after a one-off devaluation of the yuan in August 2015. It is opaque, but factors in the closing price from a day earlier and the movements of various other currencies.

Yu Yongding, a former central bank adviser, has also advocated that China stop intervening to help preserve its dwindling foreign exchange reserves, and suggested the central bank set a “bottom line” of 25 percent for the yuan to depreciate.

China’s foreign exchange reserves fell to near six-year lows in December, but held just above the critical $3 trillion level, as authorities stepped in to support the weakening yuan ahead of U.S. President-elect Donald Trump’s inauguration.

For 2016 as a whole, China’s reserves fell nearly $320 billion to $3.011 trillion, on top of a record drop of $513 billion in 2015.

Reporting by Winni Zhou and John Ruwitch; Editing by Kim Coghill