Despite China's decision to let its currency float more freely, the dollar did not trade much lower Monday as investors recognized China's move would be gradual.
While China emphasized during the weekend that investors should not expect big increases in the value of the yuan, the decision was enough to boost the Chinese currency by about 0.4%, the biggest single-day move since 2005, said Marc Chandler, global head of currency strategy at Brown Brothers Harriman.
The dollar fell sharply against the euro overnight but fluctuated in early trading Monday, and the greenback was flat versus the British pound after recovering earlier losses.
"While the China news is a positive right now, people are not really sure what to make of it in the long run and maybe investors are wondering if we are exaggerating the significance of this," said Chandler. "So right now, you've got some euphoria and some profit-taking."
China has kept the value of the yuan pegged to the U.S. dollar since July 2008, and many economists say it is undervalued, giving Chinese companies an unfair advantage over their U.S. counterparts.
Over the weekend, China said it would increase the "flexibility" of its exchange rate in response to the recovering global economy. The bank issued a second statement Sunday emphasizing that the bank is going to remain cautious, reminding investors not to expect huge hikes.
The currency reform would be "gradual," and "the basis for large-scale appreciation does not exist," the bank said in separate statements.
But even if it's a gradual move, China's decision to let its currency trade more freely sends the message that China is confident about the global economic outlook, said Chandler.
This boosted global markets and commodities Monday as investors took on more risk.
Why now?: As China's economy continues to improve, the bank said now is a good time to take further steps to boost its growth and development.
"China's economic recovery has become more solidly based, supported by enhanced economic stability," said the bank. "Second, it has become urgent for China to accelerate economic restructuring and improve its growth pattern, in view of the global financial crisis."
The bank's currency move also comes a week ahead of the G20 economic summit, where President Obama and other world leaders will meet in Toronto will discuss China's currency policy.
"We welcome China's decision to increase the flexibility of its exchange rate," U.S. Treasury Secretary Tim Geithner said Saturday. "Vigorous implementation would make a positive contribution to strong and balanced global growth."
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