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China's yuan could be at a pivotal point

The Chinese currency hit a year-to-date high against the U.S. dollar on Thursday, leaving currency experts contemplating whether officials will step in to devalue the yuan again and how this could affect the country's reserve levels.

The People's Bank of China (PBOC) has been propping up the currency since its historic devaluation last August, which sparked investors and companies to send money overseas. The central bank has been selling off its huge $3.2 trillion reserves, which bolsters the yuan by devaluing other currencies.

However, the recent strength in the Chinese currency might see a pivot from the PBOC, according to Simon Derrick, chief currency strategist at BNY Mellon. He believes that the "next surprise" from the world's second-largest economy will be fresh data showing the central bank actually added to its reserve pile in March.


This would come after four straight months of declines in its reserve levels and leave currency traders pondering what the central bank's next move might be.

Many market players expect prolonged declines for the yuan and Goldman Sachs, for example, has stated that it is sees the yuan at 7 to the U.S. dollar by year-end, from 6.4786 currently.

The yuan was pulled higher on Wednesday by a dovish U.S. Federal Reserve, which dialed back the amount of rate hikes that it expects to perform this year. But China has also had to keep a watch on other central banks, some of which have adopted negative interest rates, and a resurgence in commodity prices like gold and oil.

Geoffrey Yu, a currency strategist at UBS, believes that the PBOC would see this recent strength in the yuan as a "simple dollar move" and will concentrate on the yuan's value against a basket of currencies.

He told CNBC that the next official "fixing" will show the yuan has underperformed against non-dollar currencies like the euro and that this would limit any potential disinflationary impulse.

"The prospect of a sharp devaluation is very remote," he said via email, adding that the PBOC could top up its reserve levels and simply suppress the yuan's appreciation.

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"(This) would be a welcome departure from the defense posture they have had for the bulk of the last year," he added.

This train of thought would tally with the rhetoric from Beijing over the last couple of months. Officials there have highlighted that they do not want to be the cause of global volatility as witnessed last summer.

Last month, policymakers in the country flagged a need for improved market communication and currency stability, according to a report by Reuters. And in December last year, the PBOC said it would keep the yuan "basically stable," according to the same news agency.

If the PBOC can keep its word then it's also likely to appease the International Monetary Fund, which has added the yuan to the exclusive group of currencies that make up the basket of Special Drawing Rights (SDR).

"Stability is the watchword," Kit Juckes, global head of foreign exchange strategy at Societe Generale, told CNBC via email.

"At the moment, the PBOC is more interested in calming the market down, forcing speculators out and maintaining control of the currency, than anything else ... I'd guess they would like to guide it into a narrow range for a few months," he added.