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Chinese central bank governor reaffirms reform goal of RMB exchange (10/20/03)

China will continue to lift foreign exchange control to balance trade and gradually make the Renminbi (RMB) a convertible currency, Chinese central bank governor Zhou Xiaochuan said in a recent interview with Xinhua.

He said the floating of RMB exchange rate was an objective set at the Third Plenary Session of the Fourteenth Central Committee of the Communist Party of China (CPC) in 1993. But he said the process will take a relatively long time.

China has already taken a series of measures to make exchange under current account easier and to liberalize excessive restrictions on capital account transactions, the governor said.

"The reform of the formation mechanism of the RMB exchange rate is an important item on the agenda of China's overall foreign exchange reform," he said.

However, Zhou noted that a few things need to be accomplished before adequate flexibility can be introduced in the exchange rate regime, including trade liberalization, removal of excessive restrictions on capital account transactions and reform of state-owned commercial banks.

The above three items are relatively high on China's overall reform agenda. They must be properly resolved before reform of the formation mechanism of the RMB exchange rate can be carried out in great stride. And the sequence of the reform measures will be flexible.

As foreign-funded financial institutions will be permitted to conduct RMB business and have their market access substantially broadened by 2006, Chinese state-owned commercial banks need time to strengthen their competitiveness and risk prevention mechanism so as to viably response to a new exchange rate regime, Zhou said.

He said recently, the speculative talk about revaluation of the RMB has induced some "hot money" into China.

"This kind of speculation is not to be encouraged, for there is too much 'hot money' in the world and they would probably continue to sneak into China if vigilance is unduly relaxed," Zhou said.

"Therefore, with a view to discourage 'hot money' speculation, it is wise to reendorse stability," he said.

Zhou stressed that the Chinese central bank has the capability to sterilize the liquidity impact of inflow of "hot money" with additional monetary policy instruments. The recent rise of reserve requirement ratio was a clear signal that the central bank was ready to sterilize the inflow and did not hope to see further increase of "hot money". "This kind of speculation is very likely to fail," he said.

He said if an adjustment of the RMB exchange rate made China's staple agricultural products unable to compete with imported ones,and thereby force farmers, especially those in the coastal areas to leave farm land for cities in a much faster speed, the employment pressure would be more acute in cities since they have to provide more "non-farm jobs". A one-percentage-point fall in agricultural employment means a loss of around 4 million jobs in the farming industry, Zhou said.

He said given the size and development stage of China economy, the prevailing exchange rate regime has been working quite well.

But he said it also needs to be gradually improved.   China now adopts a unified, managed floating exchange rate regime based on market supply and demand of foreign exchange. Between 1994 and 1997, the exchange rate of the RMB against the US dollar appreciated from 8.7:1 to 8.3:1, reflecting the feature of a managed float regime.

Zhou noted that at the end of 1997, at the request of  neighboring economies and international institutions, China substantially narrowed the floating band of the RMB exchange rate to help reduce the shock of the Asian financial crisis and dispel the fear of RMB devaluation.

"The narrowing of the band should not be seen as a change from float to fixed regime," he said.

He said China would consider resuming the original floating band of RMB and improving the formation mechanism of the RMB exchange rate if there were such a consensus in the region, recognizing that the Asian crises had been over and their related problems had been solved. However, he said views on this issue are different and that many economists and neighboring countries of China believe that it is not the right time to make such a move.

Zhou said as the role of the market becoming increasingly important, the exchange rate of the RMB will be finally determined decisively by the market forces and have great flexibility.  


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