State to relax RMB exchange rate rules

New system set to pay more heed to market supply and demand

The renminbi exchange rate will be more flexible, basically determined by the market's supply and demand situation, a senior official with the State Administration of Foreign Exchange (SAFE) said on Wednesday.

The currency's exchange rate reform towards a more market-oriented mechanism will continue, said Lu Lei, the SAFE deputy director, while the renminbi weakened for the second straight trading session after hitting the 21-month high on Monday.

The daily reference rate, or the midpoint of the renminbi exchange rate set by the People's Bank of China, dropped to 6.5382 per dollar on Wednesday, down by 0.59 percent from the peak after a 11-day rise. It weakened to 6.5419 per dollar in offshore trading.

The PBOC scrapped a rule this week that requires banks to reserve a 20 percent deposit on forward sales of foreign exchange, a sign that the central bank has relaxed capital controls. The rule was enacted in October 2015 as a measure to restrain capital outflows and stabilize the yuan.

The fast rally of the yuan is unsustainable, which will be replaced by two-way fluctuations, although the stable macro-economic fundamentals will continue to support its strong value, said Cao Yuanzheng, head of the research center at Bank of China International.

A rebound of capital inflows has been seen since the second quarter as the main reason to support a stronger yuan, when foreign investors saw arbitrage opportunities due to the interest margin between the yuan and the dollar, according to Cao.

The further opening-up of the domestic capital market, including the Bond Connect program between Hong Kong and the mainland, has facilitated the yuan's appreciation, he added.

Wen Bin, chief researcher with China Minsheng Bank, said: "A more flexible exchange rate means that the central bank may allow a broader fluctuation interval around the daily trading reference."

The yuan can now rise or fall by at most 2 percent on either side of the reference rate on each trading session.

The relaxing of capital controls is expected to put the yuan's internationalization process back on track, as analysts said. It means that the yuan's promotion in international payments may rebound after a decline since 2016, according to Society for Worldwide Interbank Financial Telecommunications.

As the opening of China's capital market will continue, the space for arbitrage due to the exchange rate gap between onshore and offshore markets will be gradually removed, the SAFE official said.