Yuan appreciation may continue

The sharp depreciation of the yuan this week has aroused speculations that the currency's appreciation could slow or even be reversed.

Such anticipation is plausible, but given the interest rate differentials across the border and China's efforts to internationalize its currency, it may be too early to predict that its appreciation would come to a halt.

The yuan fell by 0.46 percent against the US dollar on Tuesday, the biggest fall since 2010. It has depreciated by 1.2 percent since the start of this year, compared with about 3 percent gain for the whole year of 2013.

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Such a sharp fall has shocked the financial market and contributed to the domestic A-share market turbulence. On Tuesday, the benchmark Shanghai Composite Index tumbled by more than 2 percent. The weakening real estate sector, which is expected suffer from price cuts and tightened bank lending, is a main cause, but the investor uncertainty as a result of the yuan's unexpected depreciation is also an important factor behind the stock market correction.

The depreciation will help stamp out international easy betting on the yuan, which has been risen steadily since 2010.

Thanks to the continual appreciation, international capital could have been flowing into China. The central bank and commercial banks purchased 1.1 trillion yuan ($180 billion) worth of foreign exchange in the fourth quarter of 2013, compared with only 129.2 billion yuan in the third quarter. In January, the country's foreign exchange purchase accelerated to 447.5 billion yuan, a sign of possible capital inflows.

It is reasonable to predict that the fluctuation of the yuan's exchange rate against the dollar will continue to widen in the coming weeks to thwart speculative capital inflows cashing in on yuan appreciation.

However, the process of appreciation may continue as the country pushes its drive of yuan internationalization. The relatively higher interest rate level, meanwhile, could continue to attract international capital.

The US tapering of its quantitative easing program since December has driven capital away from the emerging-market economies, but China, at least by now, has remain largely unscathed, which is a proof that the country remains attractive for international capital.

Such attractiveness may gradually wane as the tampering of QE continues and the momentum of yuan appreciation weakens. But for now, the yuan may possibly continue to trend up.