By Michelle Chen and John Ruwitch
HONG KONG (Reuters) - China stepped into both its onshore and offshore yuan markets to shore up the faltering yuan for a second day on Wednesday, sparking speculation that it wants a firm grip on the currency ahead of U.S. President-elect Donald Trump's inauguration.
The central bank set a stronger-than-expected daily trading midpoint for the yuan, state banks sold dollars and borrowing rates for the offshore component of the yuan rose, all hinting at state intervention to stem losses in the currency.
The moves helped the yuan <CNY=CFXS> inch up 0.1 despite strength in the global dollar index, while the offshore yuan <CNH=> hit a two-week high.
Global investors' jitters over the yuan are intensifying ahead of Trump's Jan. 20 inauguration. He had threatened during the election campaign to slap high import tariffs on Chinese goods and label Beijing a currency manipulator.
The supportive yuan midpoints and surge in borrowing rates suggested the People's Bank of China might have stepped up its action to defend the yuan to keep it from breaching the 7 per dollar level, Ken Cheung, Asian FX strategist at Mizuho Bank in Hong Kong, said in a note to clients.
"Trump's actual policy delivery and his stance against China are critical to the dollar and yuan direction in 2017," Cheung said.
"While China-U.S. tensions have been heating up in December, any provocation from Trump’s administration after he takes office will easily escalate the risk of a trade war and spark a heavy CNH sell-off."
The PBOC set the midpoint rate <CNY=PBOC> at 6.9526 per dollar prior to the market open, weaker than the previous fix of 6.9498.
In the spot market <CNY=CFXS>, the yuan opened at 6.9565 per dollar and was changing hands at 6.9540 at 0800 GMT, stronger than the previous close.
It fell 6.6 percent against the dollar last year, its biggest one-year loss since 1994, and many market watchers expect it to soften further this year, forcing Beijing to burn through more of its foreign exchange reserves if it wants to stabilize it.
"The central bank is in the market to stop the yuan from falling too quickly," said a trader at a Chinese bank in Shanghai.
"The yuan fixing was stronger than expected today, and also state banks continue to offer dollars in the market," the trader said.
The offshore yuan was trading 5 percent stronger than the onshore spot at 6.9231 per dollar.
Offshore money markets have been tight all week, with the overnight yuan borrowing rate climbing on Tuesday to its highest level in more than three months.
The CNH Hong Kong Interbank Offered Rate benchmark (CNH Hibor) for overnight tenor HICNHONDF=, set by the city's Treasury Markets Association (TMA), was fixed at 16.95 percent on Wednesday.
The rate was fixed at 17.76 percent a day earlier, the highest since Sept. 19.
Analysts said the surge in borrowing costs was a result of a shrinking yuan pool in Hong Kong, a result of fewer people seeking yuan-denominated assets owing to expectations the currency will weaken further.
"The depreciation expectation of the yuan remains and it takes time for investors to rebuild their confidence in the Chinese currency," said Liao Qun, China chief economist at Citic Bank International.
"Meanwhile, China has been making efforts to control capital outflows."
Forward markets showed investors still expect the yuan to weaken. Offshore one-year non-deliverable forwards contracts (NDFs) <CNY1YNDFOR=> traded at 7.285, or 4.56 percent weaker than the midpoint.
(Additional reporting by Winni Zhou in SHANGHAI; Editing by Kim Coghill)