China announced a further move to reform its exchange rate
forming mechanism yesterday, introducing an internationally
prevalent price-finding mechanism in the interbank foreign exchange
market.
The introduction of OTC (over-the-counter) transactions will
improve the exchange rate transmission mechanism and help meet
businesses' risk-hedging needs.
But it will not broaden fluctuations of the renminbi exchange
rate, the People's Bank of China (PBC) said.
"With a view to improving the managed floating exchange rate
regime based on market supply and demand with reference to a basket
of currencies, promoting development of the foreign exchange
market, diversifying the mode of foreign exchange transactions, and
strengthening the pricing capability of the financial institutions,
OTC transactions will be introduced in the interbank spot forex
market as of January 4, 2006," the central bank said in a statement
yesterday.
Participants in the interbank forex market now will be able to
engage in forex transactions either based on centralized credit
authorization and price bidding, or the new OTC market, which is
based on bilateral credit authorization and settlement.
The system of market makers that's obliged to quote both selling
and buying prices?is introduced at the same time to provide
liquidity.
The new OTC market will deepen the forex market so as to lay a
solid foundation for improving the formation mechanism of the
renminbi exchange rate, and enhance the representativeness of the
central parity of the Chinese currency in the new market
structure.
This is because the prices quoted by market makers reflect not
only their expectations of daily purchases and sales of forex and
positions resulted from market making transactions, but also their
judgments of movements in the international market, the central
bank said.
It will also help enhance the core competitiveness of financial
institutions, particularly market makers, and encourage them to
provide a richer variety of exchange rate risk management tools for
businesses and households, the central bank said.
"After the exchange rate reform, the central bank will have to
provide hedging tools to be able to execute a managed floating
exchange rate system," said Zhang Xuechun, an economist with the
Asian Development Bank.
After its landmark reform on July 21 last year that let the
renminbi appreciate by 2 percent to US dollar and linked the
currency to a basket of currencies instead of the US dollar, China
has taken a slew of measures to establish a market-oriented
exchange rate formation mechanism, including the launch of
risk-hedging tools like forwards and swaps.
"The next natural move could be the broadening of participants
of OTC transactions," Zhang said, noting that the OTC market is
still confined to the interbank market, where only financial
institutions are allowed.
The central bank said renminbi exchange rate will unlikely
experience larger fluctuations after the new method is adopted to
form the central parity, stressing that the floating band of the
renminbi exchange rate remains unchanged.
The central parity of the renminbi against US dollar, based on
which banks quote their prices, will now be decided on the weighted
average of prices from all market makers, after excluding the
highest and lowest offers.
The central parity of renminbi against the euro, the Japanese
yen and Hong Kong dollar will be determined by the renminbi-US
dollar central parity and the exchange rates of those currencies
against the US dollar in the international market.
(China Daily January 4, 2006)