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China signaled that it intends to take a more active role in trying to calm chaotic global and domestic markets, pumping cash into its banking system and allowing its tightly controlled currency to climb higher for a fourth straight day.
There was a widespread belief among domestic investors that the country's state pension fund had started heavily buying shares. That perception reversed a sharp fall in the Shanghai stock market and helped it to close higher in a tumultuous trading session.
As the U.S. and European economies buckle under the weight of debt, the global economy is leaning more heavily than ever on China. China's economy is still growing strongly and its government, unburdened by crippling debt levels, has been able to act swiftly and decisively in times of crisis to mobilize the nation's resources. The country has $3 trillion-plus in foreign-exchange reserves and some of the largest pools of sovereign wealth that can be deployed around the world.
Analysts say the fact that Chinese authorities are loosening the reins on the yuan and allowing it to edge higher at a time of extreme market volatility is significant. A stronger yuan is in China's own interests, since it helps to curb domestic inflation—the government's overriding priority—but it also helps the rest of the world by encouraging imports and choking off exports.
"This rise is very encouraging for it breaks with historical precedents," wrote analysts at research house GaveKal Dragonomics "Indeed, in moments of tensions in international financial markets, Beijing's initial default reaction has always been to freeze like a deer in headlights and prevent any currency appreciation at all costs. But not this time."
The research house said this suggests that Beijing wants, among other things, to "make friends and influence people."
China has long been under pressure from its major trading partners like the U.S., Europe and others to let its currency appreciate to help reduce its hefty trade surplus, which in July hit a two-and-a-half-year high of $31.5 billion. A move to reduce these trade imbalances could be seen in a favorable light in many Western capitals, and help to stabilize jittery market sentiment.
The central bank this week injected a total of 70 billion yuan ($10.95 billion) into the domestic money market –the interbank trading platform that banks rely on to manage their daily liquidity needs—its highest level since late June. The move is aimed at keeping the local market flush with funds as confidence on global markets wobbles.
"The fund injection signaled the central bank's stance that stabilizing financial markets is one of its key policy targets, especially when overseas markets are tumbling," said a Shanghai bond trader.
Shanghai stocks rallied after a Chinese newspaper, the Economic Observer, reported that the National Social Security Fund bought at least 10 billion yuan ($1.56 billion) in domestic shares since Tuesday. A fund spokeswoman said she was unaware of any stock purchases.
At one point, Shanghai's main stock index was behind by 1.7% but traders said the newspaper report help lift the index 1.3% by the close of trading.
"I feel there's an invisible hand behind the market," said Xu Yinhui, an analyst at Guotai Junan Securities. "I don't see retail investors and fund managers putting money into the market," he said.
Other analysts were skeptical about the newspaper report. "If the report is true, 10 billion yuan is far from enough to support the market. It's a drop in the bucket," said Wu Dazhong, an analyst at Shenyin Wanguo Securities.
The People's Bank of China set the dollar/yuan reference exchange rate, or central parity rate, at a fresh record low of 6.3991, against 6.4167 on Wednesday, the previous record. That allowed the yuan to trade on the over-the-counter market at 6.3938 to the dollar, its strongest intraday level since China's landmark currency reform in 1994.
Analysts say the central bank is now willing to let the yuan appreciate at a slightly faster pace to hold down prices of imported goods as that would help reduce costs of key imported commodities such as oil and grains and in turn keep a lid on consumer prices.
China's fears over inflation have increased as a result of the U.S. Federal Reserve's announcement that it intends to keep ultra-low interest rates in place until mid -2013. That has raised concerns of a wave of "hot money"—short-term speculative funds—flowing into China and other emerging markets in the quest for better returns.
An adviser to the People's Bank of China, Li Daokui, suggested that China is prepared to use its vast savings to help indebted Western countries, but in return it expects a change in their profligate ways.
In an interview, Mr. Li said that China is willing to keep buying the sovereign debt of the U.S. and European nations, but those countries must commit to long-term revisions to "revert the declining fiscal trend of these countries."
"The reforms don't have to be implemented immediately. It is not necessary to immediately reduce fiscal expenditures. But there must be visible, tangible commitments for reform measures in the relatively long term that can really alter the declining trend in these countries' fiscal situation," Mr. Li said.
Mr. Li is an academic adviser to the central bank. While he has no authority over policy, his comments do give an indication as to the thinking of China's top economic policy makers.
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