by Louisa Cheang, Group General Manager and Regional Head of Retail Banking and Wealth Management, Asia-Pacific, HSBC
Global retailers and travel companies are vying to capitalise on a surge of Chinese tourists, one of the most visible symbols of the country’s increasing wealth. These shoppers are now a frequent sight at the world’s retail hot spots, armed with their UnionPay cards and laden with luxury goods.
The Chinese overtook the Germans to become the world’s top overseas spenders last year, according to the United Nations World Tourism Organisation. In just over a decade, China has moved from near the bottom of the rankings to the very top, a remarkable achievement in a short period of time.
The Chinese government is keen to promote the currency beyond its borders
Last year, the Chinese spent USD102 billion, up 40 per cent on 2011. But based on China’s total population of 1.3 billion, this works out at about USD78 per head and suggests there is huge untapped spending power.
Average incomes in China are likely to increase sevenfold between now and 2050, from their current level of USD2,500. This means that discretionary spending is likely to jump as incomes rise and more Chinese citizens join the middle class.
Global retailers are starting to lure Chinese shoppers by hiring Mandarin-speaking sales staff and installing UnionPay. The increasing acceptance of UnionPay is a marker of the internationalisation of the renminbi.
The Chinese government is keen to promote the currency beyond its borders and has also been encouraging workers to take more holidays as part of a bigger policy to shift the economy from a reliance on investment towards greater consumption.
In February, the State Council issued its Outline for National Tourism and Leisure for the next seven years. One of the key parts was to reinforce existing regulations covering paid leave and to encourage companies to promote the benefits of holidays among staff.
The number of overseas trips made by Chinese tourists is expected to continue to grow, from 83 million today to 130 million in 2015 and 200 million by 2020. To put this growth into perspective, annual tourist departures account for only 4.3 per cent of China’s population, compared to 20 per cent in the US. This will have big implications for global retailers as the Chinese have different motivations for travelling overseas compared to Europeans and Americans. Market research indicates that shopping surpasses sightseeing as the most favoured activity.
The Chinese also account for 25 per cent of the global market for luxury labels, a larger share than any other country. About 60 per cent of these purchases are made abroad, partly because of concerns over counterfeiting on the Mainland and because domestic consumption tax and value-added tax can add 60 per cent to the purchase price. To counter this, many shop in Hong Kong, Macau and Taiwan. But as the Chinese travel more, other destinations continue to open up.
Europe is likely to be the top region this year, according to the Hurun Research Institute, with France the number one destination, because of the popularity of brands such as Louis Vuitton and Chanel.
China offers growth for the world’s retail and travel sectors. Increasing numbers of Chinese travellers will shape these areas as Americans and Europeans did before them. Soon the tourist yuan may be just as recognisable and welcome as the tourist dollar.
China is one of the oldest civilisations in the world but how much do you know about the country? Here are some facts that may surprise you.
China was the first country to make paper money about 1,000 years ago. Since then it has also used a variety of currencies including bronze coins that looked like cowrie shells; hoes and knives; bricks of tea; silver Mexican dollars; and shoes of silver called sycee. In fact, sycee was legal tender until 1935.
In China, 70 per cent of women work, which is among the highest female employment in the world. In North Africa the figure is less than 30 per cent and in Central America less than 40 per cent.
Chinese people make up roughly one-fifth of the world’s population. China has 23 provinces, covering 3.7 million square miles, and is home to more than 1.3 billion people – the highest population of any country in the world.
By 2025 China will have 221 cities with more than one million inhabitants, compared with 35 cities of the same size in Europe, according to a report by McKinsey & Company. In 2010, 19.5 per cent of China’s population migrated; with nearly 85 per cent moving from rural to urban areas.
There are now more billionaires in Asia than in the US and many of those live in China, according to the Forbes Rich List. In 2000 the list did not contain any billionaires from China; in 2013 there were 122.
A quarter of the world’s luxury purchases are made by Chinese citizens, an increase from 5 per cent in 2007, according to HSBC. Gucci expects China to become its number one market within five years.
In 2011, the Chinese spent a total of 1.8 billion hours on the internet every day, nearly three times as many hours as US consumers.
Shanghai has twice as many skyscrapers as New York. Between 1990 and 2004 developers erected office space in the city equivalent to 334 Empire State Buildings.
Use of China’s currency, the renminbi (RMB), is increasing fast. HSBC forecasts that by 2015 China will settle 30 per cent of its trade in RMB, becoming one of the world’s top three trading currencies.
Chinese government and business has placed a huge emphasis on education and training. The number of college graduates could rise by 200 million over the next two decades – more than the entire labour force of the US, according to the World Bank.
Chinese tourists venturing abroad are expected to reach 130 million by 2015, and possibly top 200 million in 2020, three times the current number of US tourists making foreign trips.
China is the second largest global economy behind the US. The World Bank predicts it will become the largest by 2030.
by Anita Fung, CEO, HSBC Hong Kong
The renminbi revolution is gathering pace. A ceremony in the southern Chinese city of Shenzhen this month marked the formal beginning of a challenging new phase of a process that is already changing China's financial sector in subtle and important ways.
A group of 15 banks signed an agreement to offer loans to Shenzhen's new Qianhai enterprise zone, opening the door for offshore participation in China's domestic lending market for the first time since 1949.
Anita Fung, CEO, HSBC Hong Kong
Monday's signing comes after last week's long-awaited announcement that the People's Bank of China (PBoC) has signed a renminbi clearing agreement with Taiwan, further expanding the currency's global footprint.
The Pearl River Delta, just over the border from Hong Kong, has long been the test bed for Chinese economic reform. Experiments which started in Shenzhen, ranging from the Mainland's first Special Economic Zone in 1979 to renminbi trade settlement in 2009, have formed the foundations of China's transformation.
Qianhai, formally known as the Qianhai Shenzhen-Hong Kong Modern Service Industries Cooperation Zone, is physically and economically a relatively small experiment: the development is just 15km² and media reports have indicated that inbound loans are likely to be limited to a total of RMB50 billion, but its impact is likely to be profound. The local authorities describe it as "a useful exploration for China to create a new opening up layout with a more open economic system".
Not only will Hong Kong banks be allowed to extend commercial renminbi loans to Qianhai-based onshore Mainland entities, but the PBoC has also indicated that such loans will for the first time not be subject to the benchmark rates set by the central bank for all other loans in the rest of China.
The Shenzhen authorities are predicting that Qianhai will generate GDP of RMB150 billion by 2020, helped by the loosening of the capital account restrictions.
Qianhai presents a series of challenges and opportunities to banks on both sides of the border
When it is fully developed, Qianhai will form a bridge where the Mainland can try new accounting and legal measures, and a protected environment where international service industries can learn more about doing business in China.
In financial terms, Qianhai presents a series of challenges and opportunities to banks on both sides of the border. HSBC believes that fears that the project will drain Hong Kong of RMB liquidity are misplaced.
We believe that the Qianhai experiment will help boost both the RMB loan business and cross-border RMB liquidity. The cost of RMB loans in Hong Kong, currently between 4 and 5 per cent, is typically 100-200 basis points cheaper than on the Mainland.
Qianhai offers a valuable hold in the Mainland markets for Hong Kong banks, and the latest measure reflects the true sense of "act first, try first". This new measure on cross-border lending will enhance the co-operation between Hong Kong and Shenzhen, the co-operation between Hong Kong and Guangdong, and accelerate cross-border convergence.
Qianhai represents significant progress in China's three-step programme towards full convertibility of the renminbi. The redback is fast becoming a significant trade currency. The ongoing relaxation of capital controls, represented by Qianhai and the Renminbi Qualified Foreign Institutional Investor programme, signal that it is well on its way to becoming a global investment currency.
The renminbi as global reserve currency is still some way off, but Qianhai is another clear indication that Beijing is not intimidated by the challenges of reforming the financial sector to achieve its aim.
It is welcome news that China is actively supporting the development of the 'dim sum' offshore renminbi bond market
China's leaders are well aware that it needs a more flexible framework to be able to compete in the years to come, despite the country's impressive growth.
China is transforming its financial system, having already made great strides to liberalise its economic system. This is a delicate operation and reform will take time.
A series of moves have already been made, including the widening of the renminbi trading band against the US dollar in April 2012. The People's Bank of China has also allowed banks the flexibility to offer rates at 1.1 times the official deposit rate and to lend at a floor lowered from 0.9 times to 0.7 times the official lending rate, the first step towards liberalising interest rates. More moves will likely follow in the coming years.
Banks have dominated China's financial landscape but that needs to change. In addition, the funding markets in China remain domestically focused. This distorts the cost of capital, and prevents a rapid transition to the levels of corporate governance China needs.
Global investors want a robust regulatory regime aligned with international standards. So it is welcome news that China is actively supporting the development of the 'dim sum' offshore renminbi bond market. It has effectively taken the developed market framework and Hong Kong's expertise and regulation and overlaid a renminbi-denominated bond market. This has enabled global issuers to become more comfortable with issuing renminbi bonds, and with investing in the bonds of Chinese companies. They are able to deal in Hong Kong and more recently London.
The onshore market is also being opened up at an accelerated pace. Until recently, the only offshore investors who could access the onshore market were central banks and renminbi clearing and settlement banks. In January 2012, the Renminbi Qualified Foreign Institutional Investor (RQFII) pilot scheme allowed some Hong Kong unit trusts to invest onshore. More recently, the older QFII scheme, formerly largely confined to equities, was liberalised to allow investment in the China inter-bank bond market. Separately, onshore access was extended to allow access by international organisations such as the International Bank for Reconstruction and Development and also to some insurers who underwrite renminbi insurance policies in offshore markets but need the deeper onshore Chinese market to hedge their liabilities.
The opening of the bond markets to global investors is not something that can be switched on or off in isolation from the rest of the financial system. If China is to internationalise its currency, open its capital account, attract inward investment, promote global competition and fund its next expansion phase, all of these need to happen together. Each is dependent on all the others, and so we are seeing progress on every one. It seems a likely consequence of financial reform that access to the onshore market will be granted to more and more investors over time.
At present global bond markets have many issues: persistent economic weakness, and minimal yields among them. Investors are increasingly attracted to new markets for diversification. As China plays an increasing global role, so could a freed Chinese bond market.
Financial markets are so focused on the slowdown in growth in China's economy that they pay little attention to other changes that may be just as important in the long run.
Admittedly, there is nothing headline grabbing about the revised rules on the Qualified Foreign Institutional Investor Scheme (QFII) and Personal RMB Services to non-Hong Kong residents does not sound so enthralling. Nor does a Memorandum of Understanding on cross-strait currency clearing. Yet all these regulatory changes are important milestones on the road to the RMB becoming a global currency.
In July the China Securities Regulatory Commission revised its rules to allow foreign institutions to invest in China's interbank bond market and in bonds placed privately by small and medium-sized companies. The ceiling on foreign ownership of a listed Chinese company was raised from 20 to 30 per cent. Importantly, the size limits on eligible foreign asset managers were dropped from funds of USD 5 billion to USD 500 million.
All this opens up China's financial markets further to foreign investors. In doing so, it allows these investors to hold more RMB assets.
Personal banking services are the remit of the Hong Kong Monetary Authority. From 1 August, it allowed Hong Kong banks to provide RMB services (accounts, cash and credit cards, loans, cross-border remittances) to non-residents. By the end of August, more than 5,700 of these had opened RMB accounts with deposits of nearly RMB 400 million (USD 64 million). Unlike Hong Kong residents, non-residents are allowed to buy and sell unlimited amounts of RMB, which they can use for travel, purchases or the convenience of having an RMB account.
An understanding on cross-strait currency clearing was reached by mainland China and Taiwan on 31 August. This will allow Taiwan to create a "CNT" offshore renminbi currency in addition to Hong Kong's "CNH", although we would expect the two currencies to be fully fungible. It will also allow domestic Taiwan banks to initiate business in RMB from 1 November. They could, for example, enable more local firms to invoice in RMB for their exports to the Mainland. As Taiwan has a large trade surplus with China, a pool of RMB could build up quickly.
Taiwan will join Hong Kong and Macao as the places outside mainland China that will have a clearing infrastructure directly linked to China's.
Singapore's Monetary Authority issued full banking licences to two Chinese banks with effect from 5 October, and is working on the details of RMB clearing. Singapore already has RMB deposits of about RMB 60 billion (USD 9.6 billion), and has the potential to grow as another offshore RMB centre.
It remains to be seen how effectively these new centres in Asia will compete with Hong Kong, which remains the launchpad for the RMB's international journey.
The emergence of London, with its 40 per cent share of global forex trading, as an RMB centre may be more significant. Five banks, including HSBC, launched a City of London initiative, backed by the Chancellor George Osborne, in April to make London a "Western hub" for the RMB. On the same day, HSBC issued its own RMB bond, the first such bond in the UK and targeted towards European investors. Having planned to raise RMB 1 billion, it doubled the issue size to RMB 2 billion (about USD 320 million) as investor demand was more than RMB 4 billion.
For China to internationalise the RMB effectively, it needs to develop deeper and broader financial markets capable of absorbing large flows of capital. It also needs substantial, well-run centres of RMB trading outside of China.
In the long term, all these changes will help the RMB to take its place as a major global trade, investment and reserve currency. This will become more significant as slowdown worries ease.
RMB milestones, 2012
London: HSBC Bank issues first "dim sum" bond in UK, raising RMB 2 billion (USD 320 million)
Hong Kong: One of four market makers for the world's first deliverable RMB futures
Korea: Led four offshore RMB public bond offerings
Malaysia: Joint Lead Manager for the largest RMB Sukuk offering to date, RMB 1 billion from the Axiata Group Berhad
Philippines: Now offering offshore RMB bonds to "Qualified Buyer" retail investors
Taiwan: Executed USD 500 million of structured hedging and more than USD 200 million notional of CNH investment since July 2011
London: Signed deal allowing the retailer Debenhams full RMB invoicing and payment with one of its key China vendors
HSBC has won the inaugural "RMB House of the Year" award from Asia Risk magazine
London has the potential to become the premier centre outside of Asia given its status as a world-class financial centre with the benefit of the European timezone.
The City of London initiative to promote London as a centre for renminbi business held its second forum in the UK capital this week. HSBC is playing a key role in a group of ten banks working alongside the City of London, HM Treasury, the Bank of England and the Financial Services Authority to support this initiative and identify practical measures to develop renminbi business in London. The first London forum was held in April this year.
Spencer Lake, Co-Head of Global Markets, HSBC said: “HSBC fully supports the City of London’s ambition to make London a centre for offshore RMB. This initiative brings together the private and public sector to chart the way ahead and help clear any real or perceived barriers. Hong Kong is clearly the leading offshore RMB centre, but London has the potential to become the premier centre outside of Asia given its status as a world-class financial centre with the benefit of the European timezone. HSBC is at the forefront of the City of London’s initiative and continues to help its clients take advantage of the significant RMB opportunities across trade, foreign exchange, PCM, and financing, both now and in the future as the internationalisation process continues.”
Anita Fung, CEO of Hong Kong, HSBC said: "As a champion of Renminbi internationalisation, HSBC firmly supports the London-Hong Kong RMB Forum and its critical function in promoting dialogue between regulatory authorities and market participants in two key markets for the offshore Renminbi. HSBC has been at the forefront of Renminbi internationalisation since it began and we will continue to ensure that our clients benefit from this historic development in the global markets."
"We see real momentum in the Renminbi's evolution into a global trade currency with cross-border trade settlement continuing to grow sharply in 2012. It is also clear that the offshore Renminbi bond market is becoming increasingly popular with international issuers and investors as it continues to grow, while China continues to open up its domestic financial markets to global investors. Following trade and investment, we remain confident that China's currency will ultimately achieve the third stage of its internationalisation and become a global reserve currency."
by Anita Fung, CEO, HSBC Hong Kong
While the world has been focusing on Europe’s woes and America’s new stimulus programme, the renminbi quietly passed another key milestone on its path towards becoming a global currency.
Last July the yield spread between 5-year onshore Chinese government bonds and those traded on overseas exchanges narrowed to just 9 basis points. A year earlier the spread stood at almost 300 points.
The higher price paid by onshore borrowers last year reflected the frictional costs created by Chinese controls. The convergence of the bond yield is an unequivocal vote of confidence in Beijing’s programme of currency normalisation.
Anita Fung, CEO, HSBC Hong Kong
The disappearance of the yield spread, when considered alongside the broadly shared agreement that the RMB has reached market equilibrium with the US dollar, are clear indications that the walls that have sequestered the Chinese currency from the global economy are crumbling fast.
The Chinese government has made substantial progress on all the three key steps to full convertibility of the renminbi: deepening and liberalising the local capital markets; relaxing restrictions on the exchange rate; and allowing the markets greater say in setting interest rates.
The Qualified Foreign Institutional Investor programme, which gives foreigners direct access to China’s capital markets, has been expanded by US$7.3bn so far this year to US$29.8bn; the onshore interbank market is being liberalised; interest rates have been allowed to float 10 per cent above and 30 per cent below the rate set by the People’s Bank of China; and the daily amount which the renminbi can fluctuate has been doubled to two percent.
September’s creation of a deliverable renminbi futures exchange in Hong Kong is also marks a key step in establishing a functioning feedback loop for market-set exchange rates, as do the memorandum of understanding signed with Taiwan to establish RMB clearing centres.
The process of internationalisation is accelerating, driven principally by growth in trade settlement. China first permitted trade RMB settlement in 2009, and since then it has grown to account for more than 10 per cent of China’s total trade, and continues to expand.
The recent plateauing of the renminbi deposit growth in Hong Kong at around RMB550bn has been mistakenly interpreted by some analysts as an indication of slowing market interest in the currency itself and the internationalization project more broadly.
But the slowdown in deposits is a mark of success rather than weakness. Some speculative investment has been driven out of the market since the renminbi reached equilibrium with the dollar, and other funds have migrated over the border into the onshore market.
The market for Dim Sum bonds is also slowing but at RMB211bn, issuance this year is still 11 per cent up on last year’s total, despite the growing attractions of the onshore market.
We believe that benchmark CNH yields will eventually move higher than their onshore equivalents as investors gravitate towards the greater return, depth and variety of mainland Chinese debt.
But we have to remember that full convertibility of the renminbi is still some way off.
The Chinese domestic bond markets are currently worth RMB22 trn, a fraction of the US$37trn US or EUR14.8trn European markets, and dismantling the remaining capital controls will be a delicate process not without risk for the Chinese government and the economy more generally.
The government in Beijing is pressing ahead with reform with what is impressive speed in historical terms: it is worth remembering that some European nations took 20 years to achieve full convertibility.
Given the importance of China to the broader global economy, there is a growing hunger for an alternative to the US dollar.
Recent research by Arvind Subramanian and Martin Kessler of the Petersen Institute for International Economics indicates that the renminbi has already superseded the dollar as the most important reference currency for most East Asian economies.
It is a trend that is likely to accelerate. The People’s Bank of China has signed currency swap deals with the Mongolia, South Korea and Australia among others; and some countries, including Nigeria and Chile, are already dipping their toes into the renminbi-as-reserve waters.
Now is the time for the outside world to consider what steps it needs to take to assist and reward the Chinese government for their bold moves towards internationalisation.
We need to recognise that a global reserve regime that stands on three legs is going to be more stable, particularly given the current uncertainties in Europe and the US, and take active and meaningful steps to support China’s efforts.
The global community, as controllers of the IMF, should fast-track the inclusion of the RMB into the basket of currencies used to determine the value of Special Drawing Rights, a move that will reciprocally reinforce the reforms now under way in Beijing.
The recent loosening of restrictions on the renminbi means that it now broadly satisfies the conditions laid down by the IMF in November last year, when they said that the next SDR meeting isn’t due until 2015, “or earlier if the Fund finds changed circumstances warrant an earlier review, to ensure that it reflects the relative importance of currencies in the world’s trading and financial systems.”
The signals being sent by the bond and foreign exchange markets are clear: the renminbi is getting ready for formal international recognition.
By Week in China
Settlement of cross-border trade in renminbi has picked up quickly, but it still makes up just 10% of China's total trade.
Much of the 19th century was a period of dominance for the British Empire and its currency, sterling. Then it was the turn of the United States and the dollar for much of the 20th century. So now, does the advent of an ‘Asian century’ herald more of a role for China and its own sovereign currency? Is the RMB soon going to challenge the dollar?
Countries with global reserve currencies have usually been net lenders. Sterling declined as the United Kingdom slumped to debtor status after two world wars, with London forced to go cap-in-hand to Washington for cash. Today it is Washington that finds itself in the red, having run up huge trade and budget deficits. China has taken over the role of creditor-in-chief.
China is also the second largest economy globally and is forecast to overtake the US by the late 2020s (assuming growth rates in both countries stay similar to current levels).
Which leads back to the big-picture argument: if you account for more than a tenth of world trade, as well as a large share of global growth, then your currency must begin to gain traction outside its own borders.
Clearly, the dollar’s dominance looks a lot less convincing than it once did, which might even prompt a few sleepless nights for the Chinese. Students at Peking University laughed in Tim Geithner’s face three years ago, when he told them that American debt was a safe investment. But officials at SAFE, the custodians of China’s foreign exchange, look down at their own pile of dollars with less mirth.
Still, a sense of perspective is important. Settlement of cross-border trade in renminbi has picked up quickly but it still makes up just 10% of China’s total trade. Cross-border investment flow is also insignificant relative to capital flows within Chinese equity markets as a whole.
And in terms of its share of global payments, the renminbi was still only 14th in August this year, trailing currencies like the Thai baht.
The subtext is that Japan bowed to foreign pressure to revalue its own currency, but that China will not make a similar mistake.
Of course, that could be spun into a positive, showing the scope for much wider adoption of the Chinese currency in the years ahead. But it also provides context for the present day. Compare the RMB’s international allure to the fact that at least half of all the dollar bills circulating do so outside the United States, according to Federal Reserve estimates. Or consider the 85% of foreign exchange transactions still classified as trades of other currencies for US dollars, or the data suggesting that close to half of global debt securities are still dollar-denominated.
Reserve currencies are anchored in low and stable inflationary environments. They need to be able to draw on a strong share of world trade or economic output from their home country, and they are backed up by deep and open domestic financial markets.
China scores reasonably on the first criteria, and very well on the second. But it has a lot of work to do in sorting out the third foundation. Japan’s experience is worth looking at here, with the tight regulation of its capital markets often blamed for the yen’s failure to spread further afield, despite Japan’s long stint (now lost) as the world’s second largest economy.
There are other similarities too. Back in the 1980s, when the yen looked set for a much bigger role internationally, almost half of Japanese exports were being sold in yen. Local companies were beginning to issue yen-denominated Samurai bonds too.
That doesn’t sound too dissimilar to the RMB’s profile today. But the Japanese currency failed to make the wider transition. Today the yen accounts for about 3% of global reserve currency holdings.
In January last year Hu Jintao told the American media that the current international currency system was a “product of the past”. But he wasn’t prepared to predict when the renminbi would make a fuller debut as an alternative. Instead, Hu admitted that transforming the RMB would be a “fairly long process”.
How long? Chinese perceptions of time vary from the open-ended (made famous by Zhou Enlai’s apocryphal “too soon to say” take on the impact of the French Revolution) to the warp-speed at which some of the country’s newer industries have emerged.
But one suggestion is that the State Council’s goal for Shanghai to become a global financial centre by 2020 sets a short end to the horizon. The rationale here is that Shanghai cannot hope for such a role if the yuan is not freer to cross borders. And if that is correct, the coming-of-age party for the renminbi is less than 10 years away.
It could happen. Currencies can seize market share rapidly if the conditions are right. In the past, changes in trade financing have also started the process, allowing for some very direct comparisons with China today. But the Shanghai deadline still looks like a dubious one. The dollar didn’t surpass sterling as principal reserve currency until about half a century after the US had become the world’s largest economy. Sceptics say that 2020 is going to come too soon, with China’s capital markets needing more time to mature before controls can be relaxed completely.
The ideal world, from the Chinese policymaking perspective, is a probably a de facto internationalisation, with the yuan taking on global currency status without the loss of control implied by floating exchange rates and the freer movement of capital.
The plan is clear enough – to anchor the RMB in overseas markets – but never at the expense of the Communist Party’s authority at home.
Whether reforms can be ring-fenced in this way but still deliver the desired benefit is open to question. What is less in doubt is that China’s leaders will be prepared to delay renminbi reforms if they believe the price is too much to pay at home. Here the lesson is again a Japanese one, with Tokyo’s signing of the Plaza Accord in 1985 and its subsequent impact on the Japanese economy. The subtext is that Japan bowed to foreign pressure to revalue its own currency but that China will not make a similar mistake.
There are other assumptions: not least that China will maintain its economic rise at its current pace, or that its policies will converge with prevailing norms, like the adoption of floating exchange rates and full convertibility on the capital account. Both steps are thought to signpost the journey to reserve currency status.
Does the Chinese leadership think the same? It may not choose the path that others envisage, especially as it believes that the rules of the international monetary system are rigged in favour of incumbents.
Also likely is that there is no all-encompassing blueprint for RMB internationalisation. Chinese policymakers are more often pragmatists than ideologues, with a preference for piecemeal reform over grander visions. Thirty years ago Deng Xiaoping talked of “crossing the river by feeling the stones” to describe the market reform era, and the analogy applies well to RMB policy today. Hence Beijing’s focus on more immediate goals, often tested out in Hong Kong first and not on the mainland proper. The plan is clear enough – to anchor the RMB in overseas markets – but never at the expense of the Communist Party’s authority at home.
“Our currency, your problem” was how John Connally, the US Treasury Secretary, put it to a European delegation 40 years ago. His point was that it was a dollarized world. Others might resent having to save, invest and even spend in a currency that wasn’t their own, but they really didn’t have much choice.
Now there seems to be more possibility of an alternative future – a monetary system in which no single currency will dominate quite like the dollar in recent decades. In part, the dawn of this new landscape was prompted by the advent of the euro in the 1990s, even if the prospects for the Eurozone now look much shakier than at any time in its history. More recently, other economies have appeared too, especially Brazil, India, Indonesia, South Korea and Russia, which are expected to join the Chinese in accounting for about half of global growth by 2050.
Despite this, no emerging economy has a currency that is used internationally to any major extent — that is, a currency in which significant official reserves are held, goods and services are invoiced, international claims denominated, and exchange rates anchored.
Surely, this cannot last. And the yuan looks likely to be at the head of the queue as the situation begins to change. The process is already underway in trade settlement and there are early signs of the renminbi becoming more influential as an investment currency too, primarily out of Hong Kong.
Forecasting a date for a full global debut for the RMB – after more complete convertibility and eventual reserve currency status – is a much tougher call. Better, perhaps, to acknowledge that we are beginning the switch to a multi-currency world, in which the RMB will feature more prominently than ever before.
By Week in China
It is not unreasonable to conclude that the bulk of yuan used in the name of import settlement is actually used to buy dollars in the CNH market and imports in fact are still settled in dollars.
“With these pieces of paper, he causes all payments on his own account to be made; and he makes them to pass universally over all his kingdoms and provinces and territories. And nobody, however important he may think himself, dares to refuse them on pain of death.”
Such was Marco Polo’s description of how Kublai Khan, grandson of Genghis, convinced merchants across his dominions to accept the new paper currency of his Chinese empire.
China’s currency reformers today lack an equivalent mortal threat. But they are relying on trade to drive acceptance of the renminbi in lands far from home.
In Rise of the RMB last year we talked to HSBC specialists in Hong Kong and China about some of the benefits of settling cross-border trade in yuan, as well as how they were working to encourage more of their customers to do so.
But in this latest edition WiC steps back to look at the bigger picture to see what it tell us about the renminbi’s journey as a trade settlement currency.
Total trade settled in renminbi increased by a factor of four in 2011 to reach Rmb2.1 trillion ($330 billion) or about 9% of China’s total trade last year. That meant that a period of consolidation was almost inevitable this year, especially as the earlier surge in trade settlement was prompted by two major expansions of the scheme, the first to 20 provinces in June 2010, and then to the remaining provinces in August last year.
Without similar triggers, volumes were unlikely to explode as they did before. Events this year have also been shaped by an export slowdown, as well as changing expectations for renminbi appreciation. Even so, the latest quarterly data (from the end of June) still suggests that settlement in yuan is ahead of where it was this time last year, at Rmb1.7 trillion. The share of China’s foreign trade being conducted in RMB (about 10% of the total) has also been maintained – further evidence of a trend holding solid rather than skyrocketing once again.
Data from SWIFT, a global messaging provider for financial transactions, gives more background. In the most recent totals (for August), the renminbi moved up one position to fourteenth in global payment volumes, with a market share of 0.53%. To give that some context, it means that the renminbi overtook the Danish Krone and now trails the Russian rouble one place above it. It has been climbing the rankings this year – back in January it was in 20th place, with 0.25% global share – but the ascent has been solid rather than spectacular.
For instance, to be one the top five payments currencies, the RMB will need to quadruple its global share to at least 2%. And that would still leave it trailing the euro and the US dollar by a huge distance, with their 44% and 30% shares respectively.
The SWIFT data is also useful in outlining where the yuan is starting to enjoy more say in payments made between trading countries and Hong Kong or China.
In the leading group in July were trading relationships where at least 10% of payments were settled in yuan. Here the Gulf countries topped the list, with nearly 40% adoption. Singapore also scored well, with more than 30% of its China payments in renminbi.
Next up were trade partners with 4-10% usage of the yuan, including Germany, Canada and South Africa. After that were the laggards, with volumes below 4%. This group includes some of China’s key trade partners like the United States and Japan. Without getting more traction among these key trading partners, the yuan is going to struggle to establish a deeper international presence.
Behind the reams of data, a more nuanced understanding of the numbers is starting to emerge. At the forefront is a change in the composition of who has been paying with the renminbi. Previously, this was heavily skewed towards Chinese buyers, something noted by the HSBC executives interviewed in our earlier publication. They pointed out that as much as 80% of renminbi payment was made by Chinese paying for imports into the country, with only 20% coming from foreign buyers paying for exported Chinese goods or services.
The most lucrative days for arbitraging between the two markets for the renminbi (onshore and offshore) may already be over.
The conclusion: usage of the renminbi was rising as a payment currency for imports arriving in China, but less so for exports sold overseas.
This year has seen a rebalancing, away from the 80:20 ratio towards something less weighted to the foreign exporters. The split is now thought to be closer to 60/40.
Why has that happened? One take is that until the beginning of this year foreign firms selling goods into China were happy to take payment in renminbi but reluctant to purchase goods with it, because they expected it to make more gains against other currencies. But when hopes of further gains began to erode, so too did some of the preference for payment in yuan.
Another explanation is that the imbalance between imports and exports suggests that something other than trade was going on.
One area given particular focus was inter-company transfer of the Chinese currency, as firms sought to capitalise on the difference in exchange rates between the renminbi offshore (often referred to as the CNH) and its equivalent in China (known as the CNY).
These arrangements were highlighted by Yu Yongding, an academic at the Chinese Academy of Social Sciences and a former member of the Monetary Policy Committee at the PBoC, in an article picked up by media in July.
In Yu’s view, much of the trade that seems to have been paid for with Chinese currency may not have been settled in it. Instead, Chinese importers were sending their renminbi to Hong Kong and then switching into dollars at better rates, before using the proceeds to pay international vendors.
“It is not unreasonable to conclude that the bulk of yuan used in the name of import settlement is actually used to buy dollars in the CNH market and imports in fact are still settled in dollars,” Yu warned.
This trend also goes some way to explaining a sudden reversal of flows at the end of last year, when anxiety about Eurozone debt and the US economy saw a sudden scramble for safe haven dollars.
As a result, investors started selling down their holdings of CNH (offshore RMB), forcing the exchange rate with the dollar below the equivalent with the CNY (RMB in China) for the first time. The arbitrage trade then reversed as Chinese exporters bought cheaper renminbi via their offshore trading arms and sent the money back to China through the trade settlement scheme.
This looks like an arrangement in which currency was being channeled through the cracks in China’s capital controls – not part of the plan when the trade settlement scheme was established.
From a similar standpoint, the Financial Times highlighted another discrepancy in May this year, this time between the percentage of international payment showing up in renminbi (0.34% at that point) and the global share of letters of credit (4% by value) issued in the Chinese currency.
This also seemed like an anomaly, the FT reported. In global payment terms, the renminbi was in sixteenth position but in letters of credit (LCs) it was the third biggest currency.
The newspaper’s explanation was that this was another arbitrage opportunity between the onshore and offshore markets for the RMB, although in this case on differences in interest rates. This time it was more of a financing ploy. Companies were making renminbi deposits at a bank in China on a higher interest rate than in Hong Kong. Then they got RMB-denominated letters of credit to pay for shipments of goods from their Hong Kong subsidiaries. But the subsidiaries used the documentary credit as collateral to obtain US dollar loans in Hong Kong at lower interest rates than they could onshore, with a currency swap to eliminate the foreign exchange risk.
That may look trade-related. But it’s really a way of raising money more cheaply offshore. For some firms in China it proved a useful option, especially when the policy cycle was tightening last year, making credit difficult to get.
This matters because trade settlement is held up as the flag bearer for a wider international acceptance of the yuan, as well as the first phase of the three-step plan (a trade currency; then an investment currency; and finally a reserve currency). If the numbers aren’t all that they appear, what might this mean for renminbi internationalisation?
The comeback is that the most lucrative days for arbitraging between the two markets for the renminbi (onshore and offshore) may already be over. Lower expectation of an ever-appreciating yuan has helped to reduce the discount in the offshore exchange rate. But also important is the steady increase in channels for cross-border capital flow, as well as wider scope for a greater number of investors to access them. This opens up more opportunity to take advantage of pricing anomalies between the two exchange rates, ensuring that major pricing mismatches won’t survive for long. Policy changes in China, like the PBoC’s decision to widen the daily trading band of the USD-CNY exchange rate, are also driving this convergence process.