Foreign exchange management will be a great challenge for the Chinese government during the next five years, given the country's net trade surplus, increasing foreign direct investment (FDI) and speculative capital inflows, said a senior official from the central bank, the People's Bank of China (PBOC), on Tuesday.

Controlling the effects of cross-border capital inflows into the economy will be the focus of foreign exchange management over the next five years, said Yi Gang, vice-governor of the PBOC and director of the State Administration of Foreign Exchange.

"China's foreign exchange management will face great pressure from 2011 to 2015 as external demand recovers in a stable manner and the country maintains a trade surplus," he said.

China's trade surplus for 2010 totaled $183.1 billion, down 6.4 percent from a year earlier, according to the General Administration of Customs, although it is expected to narrow in 2011, the Ministry of Commerce said on Tuesday.

"Import expansion is necessary for more balanced trade, and it will top the ministry's agenda for 2011," said Yao Jian, the ministry's spokesman.

Li Daokui, an adviser at the PBOC and professor at Tsinghua University, said at a forum in Beijing on Tuesday that China's surplus will decline to 1 percent of GDP in 2011.

Apart from the declining trade surplus, the country will continue to attract large amounts of FDI over the next five years mainly due to its lower labor cost, stable economic environment, and the clearer recovery trend of global direct investment, said Yi.

FDI in China hit a record $105.74 billion last year, up by 17.4 percent from one year earlier, the Ministry of Commerce announced on Tuesday. In December alone, the country attracted $14.03 billion in FDI, a 15.6 percent increase year-on-year, marking the 17th straight month of growth since August 2009.

"A small amount of 'hot money' could flow into China through channels such as trade and investment inflows, which is mainly spurred by the loose monetary policies of major developed economies and expectations of interest rate hikes and yuan appreciation. The large amount of foreign reserves will be increasingly challenging for asset management," he said.

China's foreign exchange reserves rose to a record $2.85 trillion by the end of last year - an 18.7 percent increase year-on-year - compared with nearly $2.65 trillion by the end of September. The amount increased $199 billion in the fourth quarter, according to a Jan 11 statement by the PBOC.

Yi said in an earlier interview with China Forex magazine that the country will make its currency exchange rate more flexible this year to reduce the trade surplus and inflationary pressures caused by high liquidity.

The yuan's reference rate was set at 6.5891 against the dollar on Tuesday, the highest since 2005, and it was about 3.6 percent higher compared to June 2010.

Most institutions have predicted that China's GDP growth will remain above 8 percent in 2011, and the yuan will appreciate at a pace between 3 and 5 percent, which may further attract foreign capital inflows.