(Bloomberg)
Updated: 2008-04-07 16:33

The yuan rose to the strongest since the end of a dollar link in 2005 on speculation China will accelerate its pace of currency appreciation to help stem inflation at an 11-year high.

The Chinese currency is approaching 7 against the dollar after central bank Vice Governor Yi Gang reiterated that China will allow the yuan to play a bigger role in adjusting the nation's international balance of payments. US Treasury Secretary Henry Paulson's last week visited Beijing and said China's currency needs to reflect economic fundamentals.

"The immediate focus is on inflation," said Singapore-based Mirza Baig, a currency analyst with Deutsche Bank AG, the world's biggest foreign exchange trader. "In the second quarter it will keep going like it has in the first quarter."

The yuan advanced 0.2 percent to 7.0022 versus the dollar at 12:23 pm Monday in Shanghai, according to the China Foreign Exchange Trade System. The People's Bank of China set the reference rate for trading at 7.0020, the highest since July 2005 when a decade-old peg to the dollar was scrapped. The yuan is allowed to trade by up to 0.5 percent against the dollar either side of the rate.

A stronger yuan can help correct China's economic imbalances by increasing imports and curbing rapid increases in raw material prices, the Financial News reported Monday, citing a "recent" speech delivered by Yi in Tianjin. The Financial News is affiliated with the Chinese central bank.

The government needs to watch the impact of yuan gains on the nation's exports and employment, Yi added without being specific, according to the newspaper.

Paulson's Visit

The currency's gains have gathered pace since Paulson's visit last week. It rose 4.2 percent in the first quarter.

"As the reference rate is so close to 7, it will be quite easy for the yuan to break the 7 barrier today," said Yang Shengkun, a currency analyst in Beijing at China Citic Bank Co., a unit of China's biggest state investment company.

Government bonds rose, pushing yields to the lowest in more than five months after a newspaper report said the government is likely to use currency appreciation instead of interest-rate increases to cool inflation.

The yield on the bond due in October 2012 dropped 1 basis point to 3.74 percent, the lowest since Oct. 29, according to the China Interbank Bond Market. The price of the 4 percent security rose 0.04 per 100 yuan face amount to 101.05. A basis point is 0.01 percentage point.

China will probably let its currency appreciate faster to slow price increases, rather than raising interest rates, the China Times reported Monday, citing Tan Yaling, an analyst at Bank of China Ltd. Further interest-rate increases may not be effective in curbing inflation, the newspaper said.

"The central bank is unlikely to lift interest rates in the current quarter, so this will improve demand for bonds," said He Kang, a fixed-income analyst at Guohai Securities Co. in the southern Chinese city of Shenzhen.

The People's Bank of China increased borrowing costs six times last year, and has kept its benchmark deposit and lending rates unchanged so far in 2008.