Updates prices

SHANGHAI, April 7 (Reuters) - China's yuan jumped about 0.4% against the dollar on Tuesday, hitting the strongest level in five weeks, with traders expecting increasing volatility driven by the Iran war and shaky China-U.S. trade relations.

Traders are closely monitoring developments in the Middle East as the U.N. Security Council is expected to vote on Tuesday on a resolution to protect commercial shipping in the Strait of Hormuz.

The U.S. and Iran have been trading verbal barbs as President Donald Trump reiterated threats to strike Iran unless Tehran made a deal by Tuesday night.

"The deepening Middle East conflict will continue to influence the market narrative and risk appetite," Nanhua Futures said.

The onshore yuan CNY=CFXS changed hands at 6.8587 per dollar at 0941 GMT, 0.4% firmer than the previous session's close and on track for its best day in a month. The dollar index =USD slipped 0.1%.

Before the market open, the People's Bank of China set the midpoint rate CNY=PBOC - around which the yuan is allowed to trade in a 2% band - at 6.8854 per dollar, the strongest level in nearly three years.

Earlier in the day, China's overnight pledged repo rate CN1DRP=CFXS fell to the lowest since August 2023, pointing to a banking system flush with liquidity, probably as uncertainty sends investors into cash and stalls lending.

"The impact of the Middle East conflict is unlikely to fade any time soon," Huatai Futures said, expecting elevated currency market volatility.

"In addition, uncertainty in Sino-U.S. trade relations is also on the rise."

In late March, China's commerce ministry initiated two counter-probes into U.S. practices that it said hamper the flow of Chinese products into the United States, in response to U.S. investigations against China.

Meanwhile, a cross-party group of U.S. politicians has proposed a law to impose further restrictions on exports of computer chipmaking equipment to China.

And on Friday, three Democratic senators urged Trump to bar Chinese automakers from building vehicles in the U.S.

"The key thing to watch going forward is whether the U.S. will lose its economic resilience due to high oil prices, while China can maintain its fundamental footing by keeping exports and manufacturing steady," Huatai Futures said.