Renminbi rising – slowly but steadily

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The US dollar faces a new – and really big – kid on the block.

Most indicators and financial analysts observe the recent rapid expansion of Renminbi (RMB)-denominated trade to be a reflection of the growing clout of China’s economy in the world1. While the “internationalisation of RMB” features in most analyses2, the official voices of China have been rather reticent in using this term. Even the need for internationalising the RMB has not been adopted as official policy3.

On the one hand, the use of RMB has expanded by leaps and bounds in trade settlement in offshore financial centres with the support of the Peoples’ Bank of China, while discussions in China are still addressing the basic issue: can the internationalisation of the RMB be expected to benefit China?

Requirements for an international currency

A recent high-level meeting at the Bank for International Settlements (BIS) clarifies the notion:

An international currency broadly signifies the use of a national currency by nonresidents in both commercial and financial transactions4.

Four indicators provide a composite proxy for the internationalisation of emerging market currencies, such as RMB.

The first is trade invoicing, using RMB in China’s foreign trade; the second is the importance of RMB in international foreign exchange trading; the third is the ownership of RMB-denominated debt securities by foreigners; and fourth is the share of RMB-denominated securities in the portfolio of global investors.

RMB in offshore financial centres

RMB as international trading currency is seen exclusively in offshore centres. The ones with an agreement with the People’s Bank of China granting them the privilege are Hong Kong, London, Singapore, Taiwan, Frankfurt and Seoul.

Each of these centres has a clearly defined geographical area, a Chinese clearing bank (the window), a swap agreement with the People’s Bank of China, a Residential Qualified Financial Institutional Investor (RQFII) limit and a designation for the local RMB offshore bond market. RMB liquidity varies in each of these centres, depending on the types and volumes of trade.

RMB and the HK Dollar

Hong Kong has emerged as the global hub for RMB trade, with London and Singapore rapidly catching up. The market for offshore RMB comprises RMB deposit accounts, currency exchange, remittances, credit and debit cards in RMB, cheques in RMB to be used in China, RMB bonds, and cross border trade settlements5. Hong Kong banks also issue securities denominated in RMB.

So far, Hong Kong has kept its leading role in the international use of RMB. On the domestic side, by the third quarter of 2014 deposits of RMB in Hong Kong banks amounting to RMB1,000bil had equalled the monetary base of HKD1,225bil, or RMB1,000bil.

In normal times the Bank of China, which also supplies one-third of HKD cash, acts as window for liquidity management in the HK RMB market. In times of stress a swap agreement between the Hong Kong Monetary Authority and the People’s Bank of China provides up to RMB400bil.

Due to the ample RMB liquidity available, Hong Kong also serves as clearing centre for other countries. While its role as a leading centre has been undisputed until recently, the demonstrations in early October 2014 cast doubt over Hong Kong’s role in Beijing’s eyes.

For the time being, the HKD remains pegged to the US Dollar at 7.75. The Hong Kong Monetary Authority steers its own monetary policy, basically shadowing US monetary policy. In a recent speech, the architect of this policy, Joseph Yam, admitted that the peg will not last forever6. Once the HKD is pegged to the RMB, its conversion of HKD to RMB becomes only a technicality. This can happen any time between now and July 1, 2047 when Hong Kong will fully revert to China.

RMB and the US Dollar

While displacing the HKD will be a pushover, displacing the US$ as global reserve currency is a tall order for the RMB.

Turning back to the four functions of an international currency, the RMB has had some impact by invoicing and paying for trade in RMB, modestly challenging the US$ and the other big four currencies. RMB’s share of world payments in early 2015 according to SWIFT amounts to less than two per cent7. This reflects China’s share of world trade in 2013 of 12% (exports of US$2.2tril out of world exports of US$18.3tril) with only 17% invoiced and settled in RMB8.

However, there is a significant imbalance as more imports than exports are paid in RMB. The ratio of imports versus exports settled in RMB has worsened from 1.2 in 2012 to 1.46 in 20139. This means that, for whatever reason, Chinese exporters still prefer to be paid in currencies other than RMB. This also means that a net RMB balance of some RMB1tril has remained outside China and is available for investment at an exchange rate (CHY) and interest rate that are different from domestic equivalents10.

The share of RMB in the global forex markets has increased significantly from 0.9% in 2010 to 2.2% in 201311. This is, however, a far cry from challenging the established currencies, such as US Dollar (87%) Euro (33.4%) and Japanese Yen (23%).

The third criterion for internationalisation is the ownership of RMB-denominated debt. While ownership of domestic RMB securities12 is tightly restricted to Qualified Financial Institutional Investors (QFII), the issue of overseas debt securities in RMB has been modest, compared with global issues. Subsequently, the share of RMB denominated securities in the portfolio of global investors is insignificant.

Offshore outstanding RMB bonds amounted to RMB400bil – some US$67bil. This is dwarfed by the global outstanding volume of international debt securities of US$21,900bil, made up of US$-denominated securities of US$8,300bil, Euro-denominated of US$9,000bil and GBP-denominated of

US$2,000bil13. The RMB-denominated securities made up only 0.3% of international debt securities.

The projected redemptions of US$- denominated securities issued will underpin demand for US$ in the next 10 years.

Holding RMB as foreign exchange reserves is presently done in small amounts by some 50 central banks. As the IMF has not taken a clear decision on whether RMB counts as “freely useable currency”, this use of RMB might receive a strong boost once the IMF takes a decision to include the RMB in the Special Drawing Right (SDR) in the course of 201514.

Although the US$ has gone through two phases of quantitative easing since 2009, thus expanding the US$ money supply, investors including the world’s central banks still revert to the deep and liquid markets of the US$ to invest their more than US$100tril in wealth15. The recent appreciation of the US$ is the result of this behaviour.

This led economist Eswar Prasad to say, “My sense is that even the Chinese don’t have trust in China. It is a great place to make money, but not a great place to keep it16”.

The way forward

Bearing in mind that China’s domestic financial and monetary reforms will not happen overnight and subsequently foreign exchange controls will continue to be necessary for a while17, the euphoria about rapid internationalisation of RMB to displace the US$ in the next couple of decades is premature. Some warn about raising expectations from an accelerated RMB internationalisation18.

The internationalisation of RMB in its present form raises a number of risks for monetary and financial stability in China19.

Lower interest rates and exchange rate of offshore RMB in Hong Kong lead to grey market flows: “just shuffling cash between Chinese companies and their subsidiaries in Hong Kong20”.

In order to reduce these risks, Chinese authorities will be well advised to use the existence of the Shanghai Free Trade Zone21 to establish the global centre for offshore RMB trading. There will be a centralised offshore RMB clearing centre, such as the China International Payment System (Cips), linked with the Chinese domestic payments system (CNAPS), liquidity management by the Shanghai head office of the Peoples’ Bank of China, issuing facilities for RMB bonds, as well as depository and trading mechanism. This path to promoting the internationalisation of RMB would be in line with previous financial centres22: Amsterdam until about 1800, London after this until the 1930s and New York which has provided the global currency of paramount importance until this day.




1
“The Future of the Renminbi”, Special supplement, Financial Times, September 30, 2014.

2 Woo Wing Thye, “An internationalised Renminbi will help stabilise global finances”, Penang Monthly, January 2014 (URL: www.penangmonthly.com).

3 There is no mention of the internationalisation of RMB in the CPC Manifest of the 3rd session of the 18th CPC Congress. 新华社: 中共中央关于全面深化改革重大问题的决定.2013年11月12日 nor are there any speeches by top level policymakers on this subject.

4 Guonan Ma and Agustin Villar, “Internationalisation of emerging market currencies”, BIS Papers No 78, August 2014 (URL: www.bis.org/publications).

5 The website of the Hong Kong Monetary authority provides all information (URL: www. hkma.gov.hk).

6 “HK urged to review its US$ peg”, Financial Times, June 12, 2012.

7 SWIFT press release on March 30, 2015.

8 Quoted in Financial Times on September 30, 2014.

9 International Monetary Institute of the RUC (2014), Internationalisation of RMB: 2014 Report, p 15 (URL: www.imi.org.cn).

10 Funke, Michael, Chang Shu, Xiaogang Cheng and Sercan Eraslan, “Assessing the CNY-CHY Pricing differential: roles of fundamentals, contagion and policy”, BIS Working Papers 492, February 2015 (URL: https://www.bis.org/list/ wpapers/index.htm).

11 Herbert Poenisch, “Where are Asian currencies heading?”, Penang Monthly, February 2014 and BIS triennial survey 2013 (URL: www.bis.org/ statistics).

12 The total outstanding Chinese domestic securities amounted to RMB25tril or some US$4tril. See BIS securities statistics, domestic issues (URL: www.bis.org/statistics/securities).

13 BIS Securities statistics: www.bis.org/statistics/ securities. RMB as issuing currency not in statistics.

14 See discussion at the China Development Forum on March 22, 2015. Speeches by Mme Lagarde of the IMF (www.imf.org) and Governor Zhou Xiaochuan of the PBOC (www.pbc.gov.cn).

15 The most recent IMF report on the currency composition of official foreign exchange reserves (Cofer) confirms the continuing strong role of the US$. “Dollar supremacy in forex market affirmed by IMF”, Financial Times, March 31, 2015.

16 Eswar Prasad, “Grand global ambitions sow domestic risks”, Financial Times, September 30, 2014.

17 Yu Yongding, “The temptation of China’s capital account”, Project Syndicate, March 27, 2013 (URL: www.project-syndicate.org).

18 Ben Shengli, “In Search for Solution to the Dilemma of the International Monetary System: an international FED System”, IMI International Monetary Review, June 2014. p34 (URL: www. imi.org.cn).

19 Dong He and Robert McCauley, “Offshore markets for the domestic currency: monetary and financial stability issues”, BIS Working Papers no 320, September 2010 (URL: www. bis.org/publications).

20 “Yuawn. Buzz about the rise of China’s currency has run far ahead of sedate reality”, The Economist, June 21, 2014. 21 See Woo Wing Thye (2014), ibid, p43 and also the CPC Manifest of November 12, 2013, section 7. 22 Youssef Cassis (2007), “Capitals of Capital: A History of International Financial Centres” (URL: www.foreignaffairs.com).


Herbert Poenisch is a former senior economist at the Bank for International Settlements and member of the academic committee at the International Monetary Institute, Beijing.



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