SHANGHAI: China's central bank set its strongest midpoint in eight months on Tuesday after a fall in the dollar the day before, pushing the yuan within a hair's breadth of its all-time high and raising the prospect of further appreciation.
The yuan changed hands at 6.2227 per dollar in mid-afternoon, just shy of late November's record high of 6.2223. The currency retreated slightly to close at 6.2241 for a gain of 0.09 percent from Monday's close.
The central bank's midpoint of 6.2804 set before the start of trade on Tuesday was its strongest since May 2012, although only 0.1 percent stronger than Monday's fix of 6.2872.
The People's Bank of China (PBOC) allows the exchange rate to rise or fall as much as 1 percent from the midpoint it sets each morning.
The stronger central bank fixing came in response to an overnight fall in the dollar against the euro and other currencies, as investors anticipate a continuation of easy monetary policy from the Federal Reserve.
The PBOC typically fixes the yuan firmer when the dollar index falls overnight. But traders said Tuesday's unusually strong response to the latest fall may also signal the PBOC's willingness to permit some yuan appreciation following six weeks during which authorities capped the currency's rise.
The central bank has stated repeatedly that it intends to reduce its intervention in the foreign exchange market.
With signs that China's economic recovery is on firm footing while inflation may be on the rebound, the central bank may now be more comfortable allowing the currency to appreciate.
But traders caution that a single day's strong midpoint is not enough to conclude that the central bank is shifting tack.
The yuan hit the upper limit of its daily trading band nearly every day in November and early December, when steady midpoint settings curbed the yuan's advance, and this created a deadlock during which trading volume evaporated with dollar bids absent from the market.
Only when major state banks - apparently acting on behalf of the PBOC - stepped in to buy dollars in mid-December did liquidity return to the market.
Although the PBOC is no longer intervening on such a large scale, most traders believe that major state banks are still standing guard, buying dollars as necessary to keep the yuan clear of its top-end limit.
Although such views are impossible to confirm, traders note how the exchange rate has remained close to the band's limit without actually touching it.
Allowing resumed appreciation by setting a stronger midpoint would relieve the PBOC and state banks from the burden of maintaining market liquidity while keeping the exchange rate inside the band.
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