But devaluing the CNY would be a difficult choice for the Mainland. With export growth responding more to changes in overseas demand than exchange rates, the benefit from devaluing the CNY may be marginal. The Mainland is also under constant pressure from the US and Europe governments to strengthen the CNY as a means to eliminating the huge trade surplus of the country with the two regions. Moreover, a change of market expectation from appreciation to depreciation of the CNY could also trigger sudden capital outflow, which could destabilise the domestic economy.

It is most probable that the Mainland would stabilise the CNY at around 7.0 against the USD in the coming year, and simultaneously widen the daily trading limit to +/-3.0% from the present +/-0.5%, in line with the trading bands for CNY rates versus non-USD currencies, to increase flexibility of the exchange rate.

The CNY closed 0.7% weaker at 6.8848 against the USD on the spot market on 1 December, the biggest one-day loss for the CNY since July 2005 when mainland China began pegging its currency to a basket of currencies. The rate continued to trade near the 6.88 level in the following six days.

Not only did the CNY depreciate markedly against the USD on December 1, it also touched the upper bound of the +/-0.5% daily floating limit for the first time. The upper limit was hit again on the two subsequent days. The daily band is the permitted trading range of the spot CNY rate against the USD compared with the mid-rate set by the People Bank of China (PBOC) each morning. The band for the CNY rate against the USD was widened from +/-0.3% to +/-0.5% in May 2007.

The RMB4 trillion fiscal package, to be spent on infrastructural projects, subsidised housing, rural livelihood improvement etc. in the coming two years, is expected to raise the Mainland’s real GDP growth in 2009 and 2010 by two to four percentage points each.

With the impact of the global financial crisis spreading further to the real economy, interest rates could be reduced by another 50 basis points in the first quarter of 2009, while the required reserve ratio could decline to 12% by the end of 2009 from 16% at present. Overall, with the stimulus package in place, there is a good chance for the Mainland to attain a real GDP growth of about 8% for 2009 after an estimated growth of 9.5% for 2008.

The economic downturn and more fiscal spending would lead to a bigger budget deficit, which could reach about 4-5% of GDP in 2009 from about 1.5% this year. But given the Mainland’s strong fiscal position, with an outstanding public debt of only about 21% of GDP in 2007 and the world’s biggest foreign exchange reserves of USD1.9 trillion at the end of September, the country should have little problem in withstanding a temporary deterioration in the government’s account.

Mainland China slashed banks’ lending rates by about one percentage point on 26 November. The cut was the fourth this year and the largest since the 1997 Asian financial crisis. The latest rate reduction, made just 2 1/2 weeks after the Mainland announced a RMB4 trillion fiscal stimulus package, suggested that the central authorities were really concerned about the country’s deteriorating economic conditions.

The one-year loan rate was lowered to 5.58% on November 27, down 1.9 percentage points from its mid-September 2008 level when the Mainland began its latest round of monetary relaxation. Simultaneously, the authorities also reduced banks’ required reserve ratios by 1-2 percentage points to 14-16%, depending on the size of banks. The continued easing of inflation in the last few months has allowed the authorities to relax monetary policies more aggressively. Consumer prices rose only 4.0% in October compared with increases of 4.6% in September and 8.7% back in February 2008 due to falling food prices.