The International Monetary Fund said Monday that China's yuan is "substantially weaker" than it should be and warned inflation in the world's second-largest economy would hit five per cent in 2011.

The Washington-based lender also noted growing concerns over the potential for "steep corrections" in Chinese property prices - a key worry for Beijing - and "boom-like" credit as banks undermine official efforts to curb lending.

"The currency of China still appears substantially weaker than warranted by medium-term fundamentals," the IMF said in its 2011 World Economic Outlook, adding to growing international calls for a more flexible exchange rate.

A stronger currency and higher interest rates would help emerging economies such as China avoid overheating and ease global trade imbalances, which was "essential" to putting the recovery on a stronger footing, the IMF said.

"Countries are often tempted to resist the exchange rate appreciation that is likely to come with higher interest rates and higher inflows," it said.

"But appreciation increases real income, is part of the desirable adjustment, and should not be resisted."

China has faced growing pressure to let the yuan strengthen, with critics claiming the currency is grossly undervalued and results in relatively cheap Chinese-made goods flooding overseas markets.

Inflation was likely to hit five per cent in 2011 compared with 3.3 per cent last year - well above the official target of four per cent - as price pressures spread from food to "other items including housing", the IMF warned.

The fund forecast China's economy to grow 9.6 per cent this year - matching the latest estimate by the Asian Development Bank and outstripping Beijing's own eight per cent target - with domestic demand becoming a bigger driver.

China's economy grew 10.3 per cent in 2010.

Premier Wen Jiabao vowed at the weekend to ramp up efforts against inflation ahead of the release of key data this week that is likely to show consumer prices rose more than five per cent year-on-year in March and China's economy grew around 9.5 per cent in the first quarter.

Stability-obsessed leaders have been trying to tame inflation, which has a history of sparking social unrest in the country of more than 1.3 billion people, as soaring global oil and commodity prices drive up domestic costs.

Beijing has hiked interest rates four times since October and tightened restrictions on bank lending - but the IMF noted that banks' "financial innovation and off-balance sheet activities" were undermining these efforts.

The IMF said "nascent overheating pressures" must be addressed, warning "an abrupt slowdown of economic activity in China, perhaps following a credit and property boom-bust cycle, would adversely affect the whole region."

channelnewsasia.com