China's economy under fire at Davos

Political leaders, central bankers and financiers at the World Economic Forum have attacked China's monetary and trade policy and questioned its ability to tackle an overheating economy.

Top Chinese officials face an increasingly difficult task insisting that Beijing is acting in the interest of the world economy by keeping its yuan currency weak against the dollar and maintaining a huge trade surplus -- 196.1 billion dollars in 2009.

Even in a keynote speech on the first day of the Davos forum on Wednesday, French President Nicolas Sarkozy made a veiled attack against China, saying festering trade imbalances were harming economic recovery.

"Currency is central to these imbalances," he said.

Exchange rate instability: Sarkozy

"Exchange rate instability and the under-valuation of certain currencies militate against fair trade and honest competition," he stressed.

"Persistent external imbalances" was also raised by Ibrahim Dabdoub, who heads Kuwait's central bank.

"Somehow we have to tackle this part of the imbalances. We have to tackle the imbalances between China and the US, and the Gulf oil exporters and the US," he said.

Soros weighs into China debate

Billionaire financier George Soros added to the calls from Europe and North America for China to allow its currency to appreciate.

"The case for revaluing the renminbi is getting stronger and stronger," he said, insisting that a stronger yuan would be "good for China and the rest of the world."

Soros also expressed scepticism about whether China would beat asset bubbles building up in its economy.

'Major test for Chinese government' ahead

"The jury is out," he said of China's efforts to contain high property prices and credit. The campaign will be "a major test for the Chinese government."

China's economy has been expanding at red-hot pace, but the growth rate of the property and stock markets has heightened inflation fears which have already forced Beijing to cut bank lending to deter a consumer splurge on cars and property.

Ahead of a keynote speech on Thursday on the financial crisis and reforms by Vice Premier Li Keqiang, defending China in Davos has been left to the deputy chief of the central bank Zhu Min.

"It's very important to have a stable yuan particularly in this very volatile market," he said. It was "good for China, it's also good for the world."

Zhu said the cheap US dollar was encouraging trading that could bring a repeat of attacks on Asian currencies during the region's financial crisis of the 1990s.

Investors are borrowing dollars and putting the borrowed funds into emerging markets, where interest rates are higher, generating a better return than saving in the dollars, said Zhu.

This phenomenon, called the "carry trade" is a "massive issue today", he added. "It's bigger than the Japanese yen carry trade 12 years ago."

Pressure on US monetary policy

He urged the United States to tighten its lax monetary policy, making borrowing more costly. Funds could then flow quickly out of emerging markets, back into the US market.

This could cause a collapse in emerging market currencies and spark a repeat of the 1997-1998 Asian financial crisis, some experts say.

Then, investors borrowed the cheap Japanese yen to put into southeast Asian economies, fuelling strong growth before exports slumped amid a global demand slowdown.

Speculators attacked southeast Asian currencies, believing they were overvalued. Thailand abandoned its fixed exchange rate to the dollar. Other currencies followed and crashed under crippling debt and soaring interest rates.

"It's what we learnt from the Asian financial crisis. Because the yen went back to the Tokyo market," said Zhu.

"Everyone is concerned about the direction which the capital flow will move. It's an absolute real risk for the year," he said.