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China should ‘stand back and let yuan fall against US dollar before Trump takes office’

An influential Chinese government adviser says Beijing should stop intervening to control the value of the yuan and instead allow a fall in the currency’s exchange rate before Donald Trump takes office as US president at the end of January.

Yu Yongding, a senior fellow at the Chinese Academy of Social Sciences, wrote in a co-authored article published in the Shanghai Securities News that the Chinese currency was likely to depreciate against the dollar in the coming months and Beijing should permit the yuan to fall as much as the markets dictate while maintaining controls on the flow of capital in and out of the country.

Yu, who was the only academic on the central bank’s monetary policy committee when China removed the yuan’s peg to the value of the dollar in 2005, said in the article: “Over the next few months, the possible increase of returns on dollar assets … and capital outflows will bring in bigger depreciation pressure on yuan.

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“From now until the president-elect Donald Trump officially takes office is a good window period to abandon market intervention and let the yuan fully release its depreciation pressure.”

Yu and fellow author Xiao Lisheng said the central bank’s current strategy of trying to manage a gradual and controlled fall in the value of the yuan was backfiring and wasting China’s hard-earned foreign exchange reserves to prop up the currency. These have shrunk by about US$800 billion from a peak in June 2014.

“The refusal to allow the yuan to depreciate in full, objectively speaking, is failing to increase the cost of capital flight, and rather it could encourage such flight,” Yu wrote.

“The yuan’s fast weakening in recent weeks didn’t split market expectations on its depreciation, but has intensified it to some extent. Such consistent expectation has seriously limited the central bank’s monetary policy operations,” the article said.

The fall in the yuan against the dollar has accelerated in recent weeks. It is now trading at about to 6.9 to the greenback, the weakest level in eight years.

While Yu has extensive contacts with China’s decisionmakers and is a widely respected scholar, there is no guarantee that his suggestions will be formally adopted.

As the yuan has been weakening against the dollar, the central bank has tried to guide market attention to the fact that the yuan has been stable “against a basket of currencies”.

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Yu said China can manage any fallout from a fall in the yuan as long as the authorities can maintain capital account controls.

He argued that China’s economic fundamentals meant it was unlikely the currency would fall 20 or 25 per cent.

“Was there such a case in the history of the world economy – a nation’s currency would devalue 20 or 25 per cent when the country has the world’s largest trade surplus, one of the fastest economic growth rates, the world’s biggest foreign exchange reserves and much higher financial investment yields than the United States?” Yu asked rhetorically in the article.

He said controls on the flow of capital in and out of China had to be in place as the central bank’s last line of defence.

“Tightening capital controls is absolutely correct. For now, they must be tightened not weakened,” Yu wrote.