Report says RMB is on pace to be a reserve currency; but a great deal more needs to be done for it to attain the same role as USD and EUR.
The renminbi FX and rate markets, along with the US dollar and euro, will soon dominate global financial markets. That’s according to a report co-authored by the Asia Securities Industry & Financial Markets Association (ASIFMA), Standard Chartered and Thomson Reuters.
“The RMB internationalization project has achieved remarkable progress in a short period of time, taking the RMB from relative obscurity on the global stage to an increasingly commonly used currency for trade, investment, and official reserves,” the report said. “However, it remains to be seen whether the RMB will become a major fixture of the international economic system.”
There is a risk that it won’t because China’s capital account is still largely closed, which would mean the RMB probably won’t be incorporated into the IMF’s special drawing rights (SDR) basket anytime soon. And while many central banks have already moved ahead with reserve diversification into RMB, official inclusion of the RMB in the SDR basket “will leave no doubt that the currency is acceptable as an official reserve asset.” Further, by 2020, China’s capital account should be “basically open” but will have some “Chinese characteristics,” the report noted. For instance, while direct investment will flow much more easily, large deals might still be subject to approval requirements.
With that 2020 date in mind, China is doing what it can to prepare. As a test-run for full convertibility, country launched the Shanghai Free Trade Zone in 2013 to see how free trade would survive onshore. In January of 2014, China’s regulatory authorities decided to add 12 new FTZs over the subsequent three months. “The lending sector will be liberalized within the FTZs and remitting of RMB into China for foreign direct investment (FDI) purposes has been further simplified, making it easier for foreign investors to invest and develop their businesses within the FTZ zone,” the report said.
The FTZs mean regulators are opening up to the possibility of a more widely traded RMB. Still, they can do more. The report suggests that to “fully experiment and assess the effects of FTZs,” regulators should consider:
- Permitting qualified foreign investors to freely transfer investment gains out of China;
- Piloting convertibility of RMB capital items;
- Piloting cross-border RMB usage;
- Piloting market-determined financial interest rates;
- Supporting cross-border RMB re-insurance business;
- Encouraging multinational corporations (MNCs) to establish global/area fund management centers;
- Allowing qualifying private capital and foreign financial institutions to do business in the financial services sector; and
- Permitting overseas entities to participate in commodity futures trading in the FTZ.
Still another issue hanging over the fate of the RMB as an international currency is the Chinese economic outlook and the short-term developmental path for financial reforms. “If China’s economy falters or the authorities choose not to progress on key areas such as further interest rate liberalization and full convertibility of the RMB, the global use of its currency will come into question.”
But despite the risks, the report suggests that by 2020, all will be well with the RMB’s full entry onto the global stage. But all of this will be gradual the report, says, as authorities make the changes and China’s financial system slowly absorbs and adjusts.