Renminbi's global march picks up pace

Enactment of new payment system smooths out yuan clearance complications

A recent milestone in Chinese renminbi internationalization, according to Fan Yifei, deputy governor of the People's Bank of China, is the launch of China's Cross-Border Interbank Payment System. The new system "will enhance efficiency of the yuan's cross-border settlement and promote its global use", Fan says.

This move seems to be well in line with China's strategic plan to make the renminbi a truly international currency sooner rather than later. According to the Society of Worldwide Financial Telecommunications, known as SWIFT, which is behind almost all major international transactions, China's renminbi has overtaken the Japanese yen and become the fourth most important international currency in volume of payments and settlements, trailing only the US dollar, the euro and the British pound. Also according to SWIFT, yuan-denominated payments more than doubled from 1.39 percent of total global market transactions in last January to 2.79 percent now.

Several factors are directly responsible for the rapid pace of the renminbi's international adoption.

First and foremost is the increasing importance of China, Chinese corporations and Chinese consumers in the global economy. Ever since China joined the World Trade Organization and especially after the 2008 global financial crisis, which heavily damaged Western economies and financial systems, China emerged as an important player not only in international economics, but also in geopolitics and global rule setting. China's fast growing economy, ambitious national strategic plan and large and affluent middle-class have made it no longer simply the world's factory, but also the largest consumer and one of the largest investors in the world.

Establishment of the BRICS bank, Asian Infrastructure Investment Bank, and the BRICS emergency swap system and reserve fund has clearly established China's leading role among emerging economies to restore, reform or even reset the rules of the international financial system. China's Belt and Road Initiative aims not only to encourage Chinese companies to invest and expand globally, but also to provide firm and strong state support for such an international reach by the private sector.

Over the course of the past few years, Chinese companies' international presence has no longer been confined to less developed economies and natural resources-related transactions. Chinese companies have been aggressively expanding into the United States and Europe, and into fields such as motor vehicles, high-end manufacturing, fashion, food, entertainment and lifestyles. China's State Development Bank and Import and Export Bank, two important policy banks commissioned to assist China's internationalization, have provided Chinese companies, particularly state-owned enterprises, with ample capital and professional expertise.

Needless to say, with such vast international expansion by Chinese companies, the renminbi has become more and more widely used not only in clearing and payment, but also in significant investments and repayments of investment proceeds.

In additional to the sheer size and impact of the Chinese economy, China's well-designed plan to increase the international adoption of the renminbi certainly deserves some credit as well. With the establishment of offshore international currency centers over the past several years, China has carefully and steadily included almost all major international financial centers in the network for clearing and investing yuan.

Starting with Hong Kong, Singapore and a few other Asian cities, offshore renminbi centers have become an international trend. London, New York and Tokyo, which have traditionally been regarded as the world's primary international financial centers, have all joined the list in helping make the renminbi more international.

With the signing of more bilateral agreements between China and host countries, a direct clearing system is taking shape between China and the rest of the world. With the renminbi's relatively stable exchange rate, with China's strong and sound national balance sheet, and with the increasing number of offshore renminbi centers around the world, it is expected that use of the currency will continue to climb for the foreseeable future.

Last but certainly not least, let us not underestimate the size and purchasing power of Chinese consumers. China has become the top source of international tourists. With the increasing internationalization of the China UnionPay system, which parallels Visa and MasterCard, Chinese consumers and tourists incur increasingly large amounts of international purchases and expenditures, which are eventually cleared and paid in renminbi.

With a relatively strong exchange rate and the increasing appetite of China's booming middle class for a Western and international lifestyle, there is little doubt that the Chinese consumer will keep pushing the renminbi to become an ever more important currency worldwide.

At the same time that China savors its accomplishment in just a few years toward making its currency international, it is worth pointing out that there are still hurdles to be cleared before the renminbi can become truly international.

First, there is the pricing mechanism of the renminbi exchange rate. After continuous appreciation over the past few years, the depreciation of the yuan in August startled many investors. Some argue that such a sudden move was partly motivated by China's willingness to let the renminbi float more freely, clearing the path for its inclusion in the International Monetary Fund's Special Drawing Rights basket of reserve currencies, a long-term strategic goal.

But many suspect that the subsequent influence exerted by the Chinese central bank and its subsidiaries to stabilize the exchange rate may have tarnished the market's confidence in the renminbi as a truly market-determined currency. Without such confidence, it is hard to imagine leading international reserves and institutional investors venturing to allocate more yuan and yuan-denominated transactions and assets.

Second, controls on the Chinese capital account make the renminbi the most important international currency that cannot be freely converted. Even with a market-determined exchange rate, if foreign holders of yuan worry about availability and liquidity when they need to exchange renminbi into hard currency such as the US dollar or euro, such risk aversion could divert a significant amount of interest away from the renminbi into other freer currencies.

Finally, there still exist some significant arbitrage opportunities between the onshore and offshore markets, both in terms of investment opportunities and in terms of liquidity. Some suspect a large proportion of cross-border yuan transactions are motivated by investment, rather than clearing purposes. If this is indeed the case, then it is conceivable that such cross-border transactions will stall or even wane if renminbi appreciation stopped or reversed, or if the deepening of Chinese financial reform rendered it profitless to engage in such international arbitrage anymore.

After all, a big part of the motivation to internationalize the renminbi is to make sure that China will have an impact in setting the new global financial order proportional to the size of its economy. The eventual goal of renminbi internationalization is not only to have more foreigners use yuan for transactions, but also to have them use yuan to invest and in reserves.

The People's Bank of China announced on Oct 23 that it was cutting both interest rates and the reserve requirement ratio again to boost the economy. It has been suggested that China has formally stepped into "the era of negative interest rates", which would be the fourth time since the 1990s.

Consequently, a further shake-up of China's financial sector and foreign exchange regulations holds the key to answering important questions about when the renminbi will become a truly international currency, despite the fast and encouraging growth in the realm of international clearing and payment systems.

The author is deputy director of the Shanghai Advanced Institute of Finance. The views do not necessarily reflect those of China Daily.

(China Daily European Weekly 10/30/2015 page12)