The NeuGroup and Standard Chartered Bank partnered to offer a series of one-day roundtable sessions to discuss topics most relevant to RMB internationalization and solutions for your RMB needs. Here are takeaways from the New York meeting.
February 24, 2015 marked the second in The NeuGroup’s five-part, “Path to Bolder RMB Implementation” roundtable series in partnership with Standard Chartered Bank. The New York meeting was followed by a Chinese New Year party celebrating the Year of the Goat. In the spirit of the Chinese New Year, the Chinese proverb “a camel standing amidst a flock of sheep” summarized the day’s discussions as it is clear that no US MNC wants to stand alone in their quest for RMB internationalization.
Based on participant discussion, treasury professionals at US MNCs active in China see the benefits of bold preparations for RMB, but they want their peers with them to help establish standards, promote best practices and help local Chinese authorities better understand how US MNC treasuries want to operate in support of their China businesses.
Cash biggest headache
We began the day with a round-robin session of introductions and a discussion of what participants see as their biggest challenge in China. Most agreed, consistent with the participants from our first roundtable meeting in Chicago on February 11, 2015, that the continued build-up of cash in China and the limited ability to use the cash efficiently because of regulatory restrictions was by far their biggest headache. As business continues to grow in this region, it is increasingly important to understand the regulatory changes and begin to put in place a new foundation for a more efficient liquidity management structure going forward.
Becky Liu, Director and Senior Rates Strategies-Hong Kong, Standard Chartered Bank, walked the group through a summary of the macroeconomic outlook for China and highlighted that the landscape was “totally different than just one year ago.” Although growth has slowed from the double digits experienced a few years ago, she still predicts stable growth at or around 7 percent. Based on her projections, “there is no fundamental need to weaken RMB; although we may see some near-term weakness based on USD strength, it is still a strong currency.”
As it relates to foreign exchange, Becky believes there has been too much focus on band widening in the FX reform process. The current process of CNY, or onshore RMB fixing is antiquated and needs reform since the fixing rate is primarily theoretical and doesn’t reflect true market conditions. To mitigate this disconnect, there is expected to be more CNY fixings to CNH (offshore RMB) along with a widening of the band. Standard Chartered discussed the likelihood of a continued convergence of FX rate curves over time so that most US MNCs will trade in CNH offshore vs. CNY onshore. This is good news for roundtable participants as it makes managing their FX exposures easier when they execute trades in the offshore market, both from a timing and competitive price perspective.
The rapid uptick in the CNH offshore activity has led many treasurers to reevaluate their currency exposures and consider the impacts of RMB redenomination. The RMB is now the fifth-most-common SWIFT payment currency globally, just behind the Japanese yen (JPY). The currency was number 13 just two years ago and is expected to surpass the JPY in the next year or so. Bottom line: it’s not too early to implement your RMB strategy.
With or without the US
The world has already endorsed the RMB with or without US support or acceptance. Based on a presentation from Caroline Owen, Regional Head of RMB Solutions, Americas for Standard Chartered Bank, “All You Need to Know About RMB Internationalization,” the very obvious absence of the US from the global map of clearing banks is seen as a political move and does not have an impact on the globalization of the RMB. “US MNCs are encouraged to get on board with these changes even if the US decides not to act as a clearing bank,” Caroline said. “Europe and Asia have plenty of options for clearing banks for US MNCs to effectively manage their global trades.” There are currently 15 global clearing banks with 10 more expected during 2015.
Ten currencies now trade directly against the RMB with the additions of the New Zealand dollar, British pound, Korean won, euro and more recently the Singapore dollar in 2014. Other directly traded currencies include USD, the Malaysian ringgit, the Russian ruble and the Australian dollar. The combination of these currencies most often captures the majority of a large MNCs’ FX exposures to China and makes hedging easier and more efficient as new direct trading markets open up.
Our showcase client for the New York session described her company’s in-country pool that invoices in USD and RMB. “We are conservative when it comes to taking risks in treasury,” she noted, as a preface to describing her company’s RMB liquidity management structure implementation. “We want to be bold, but not any bolder than our peers.” She described how her company implemented a People’s Bank of China (PBOC) two-way RMB cross-border lending structure and went on to describe the benefits of this program.
Many see the cross-border lending program in China as a basic foundation for future liquidity enhancements and something that they are moving up on their treasury priority list. There are a few strategies to pick from depending on the needs of the business. The one-way program is a great way to use trapped cash by lending it offshore to an entity that needs cash. The two-way program allows Chinese entities to borrow funds from offshore for working capital purposes without affecting the foreign debt quote. For our spotlight client, having the ability to lend China cash offshore was a very high priority, so a two-way structure worked best for them.
RMB in the SDR?
The International Monetary Fund will this year conduct its twice-a-decade review of its Special Drawing Rights (SDR), an international reserve asset based on a basket of four major international currencies: the dollar, euro, pound and yen. There is speculation the IMF, based on the growth of the RMB so far, will add it to the basket. If this happens, its internationalization prospects would get a hefty boost. That’s because central banks would become holders of RMB exposure through their SDR assets. This official recognition of the RMB’s reserve currency status would likely then spur RMB investment by central banks all over the world, particularly those in developing countries looking to hold yuan assets and diversify away from dollars. Inclusion could propel the RMB past sterling and yen in usage.
Transfer-pricing policies
A major component of any cross-border pooling or lending program is the transfer-pricing policy that defines interest rates and other payment details to ensure the structure is treated as ”arm’s-length.” The creation of a transfer pricing program was a very robust discussion at the roundtable as members reflected on the appropriate arm’s-length transaction rate that should be used for intercompany activity in light of the limited market rate options available. This is a critical component to the creation of a cross-border lending program, which everyone agreed is an exciting new opportunity in the global liquidity arsenal which allows idle or excess cash to be moved offshore to parties that have a cash need.
Pre-meeting survey statistics revealed that many MNCs are billing into China in USD and therefore not making trade settlements in CNH. Although this arrangement may look like there is no USD exposure involved in the transaction, the fact of the matter is that often times the Chinese vendor has added an FX component to the price and as a result you may be paying more than you otherwise would if you moved to RMB invoicing and managed the currency exposure yourself.
This scenario kicked off a good debate among attendees as they discussed their experience with receiving USD invoices from Chinese vendors vs. making the switch to RMB invoices. For those who have made the switch from USD to RMB for trade, the management of FX risk was most often identified as the primary factor in their decision. Others said it was the ease of PBOC approval that prompted them to make the switch. One company described its process of first starting with invoicing in RMB as a way to better manage margins and expand market share, and then moved on to the redenomination of intercompany flows in CNH as a way to better manage the build-up of CNH balances. There are many things treasury groups can consider doing now to add efficiencies to the Chinese cash flows that weren’t possible a year or two ago. It’s not too early to begin making these foundational changes.
About those FTZs
As part of the session on Long-Term Risks and Opportunities, we discussed the expansion of the Free Trade Zones and how this would have benefits for many in the room. For those doing business in China, since the regulatory changes have most often been applicable to business activity in the Shanghai Free Trade Zone only, they have not been able to apply any new changes consistently to other areas of their business in other regions of the country. However, with the recent announcement of three additional Free Trade Zones in Fujian, Guangdong, and Tianjin, and the expansion of the existing Shanghai Free Trade Zone, the coverage area for the new liberalization changes will now be four times its original size.
Roundtable participants were very happy to learn of the expansion of the Free Trade Zones as it now allows them the opportunity to re-evaluate their Chinese operations and take greater advantage of the new liberalization guidelines. Many were encouraged to take this new information back to the office and reassess their RMB Internationalization Strategy.
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