Chinese stocks have dropped nearly eight percent after China's central bank announced it would raise the amount of cash banks must keep on hand to a record high. China has been struggling to rein in excess cash to control inflation, but pressure is growing on Beijing to let its currency appreciate faster. Daniel Schearf reports from Beijing.
China's stock market benchmark, the Shanghai Composite Index, plunged by 7.73 percent Tuesday after the People's Bank of China said it would raise the reserve ratio by one percent this month.
The reserve ratio is to go up in two stages, half a percent on June 15 and another half on June 25, to a record high 17.5 percent.
The move marks the fifth time this year the bank has raised reserves to discourage excessive lending and investment. The bank last year raised interest rates six times to encourage savings and make lending more expensive.
Michael Pettis is an associate professor of finance at Peking University. He says the problem is China's currency, the yuan, is undervalued and a gradual appreciation has not slowed the flow of cash.
"The fact is none of these things are working. No matter what pace they use, hot money seems to be pouring into the country. And, that's very, very destabilizing for stock markets, banking markets, and everything else in the country," said Pettis.
The excess cash has fed inflation, which neared a 12-year high of 8.5 percent in April. Food prices were up a massive 22 percent.
If inflation continues to rise authorities may have to take more drastic measures, to keep rising prices from stoking public unrest.
Pettis says China may be forced into a one-off revaluation of the yuan, perhaps by as much as 20 percent.