Treasury Today Country Profiles in association with Citi

Renminbi internationalisation: yuan to watch

At first glance, China seems to be pulling off the impossible. The Asian Tiger is developing an offshore currency market while keeping in place strict controls on cross-border flows of capital. Western economists said this couldn’t be done. Yet the project has been an astounding success so far. The renminbi is becoming increasingly internationalised – and it is doing so on China’s terms.

In mid-2010 the country agreed to establish an offshore renminbi market based in Hong Kong. Within the space of a year the total amount of Chinese trade executed in renminbi rose from 0.7% to some 9%. Western corporates, for their part, have been keen to accommodate Chinese trading partners. Conducting trade in renminbi establishes further footholds in the Chinese market; and as China shifts its economic growth model towards domestic consumption, corporates hope to tap further into the rising demand of Asian consumers. The redback’s rise shows no sign of losing momentum.

“Firms doing business in China are increasingly settling trade transactions in the Chinese currency and beginning to realize the benefits. Holding the proceeds of trade settlements in renminbi provides a natural currency hedge and a diversification of offshore currency holdings,” says Simon Jones, Head of International, J.P. Morgan Treasury Services EMEA. “For importers, trading in renminbi can strengthen their position when negotiating contract terms and pricing. For exporters, working in renminbi provides their trading partners more flexibility and mitigates the affects of exchange rate fluctuations that can erode margins.”

Indeed, it is forecast that the share of renminbi-denominated trade payments ‘will rise sharply and boost demand for the currency’, amounting to some $1 trillion by 2020, according to Vanessa Rossi and William Jackson of the Chatham House independent foreign policy think-tank. No wonder, then, that corporates are pushing to establish customer and supplier bases in China sooner rather than later.

Now governments are also getting in on the action. In mid-January the British Chancellor, George Osborne, announced an agreement with Hong Kong to establish London as an offshore trading centre for the renminbi. “At the moment [the renminbi] is mainly being traded in and around China and Hong Kong and what I’m working on is making sure that London is the western trading centre for the Chinese currency … that’s good for British, good for British jobs and also good for China,” Osborne said in an interview with the BBC. In other words, the West’s interests are China’s interests.

It is only a matter of time before other Western countries with financial centres follow suit. But something is amiss. Across the Western world it is presumed that the renminbi will follow a ‘natural’ path towards establishing itself as a fully convertible currency. Internationalisation, in the eyes of Anglo-Saxons, is synonymous with currency deregulation. Corporates invest today to take advantage of tomorrow’s opportunity.

With China, this is not necessarily so. Western observers, for example, routinely underestimate the formative impact the 1997 Asian financial crisis had on the Chinese psyche. This was a panic in which the currencies of Thailand, Malaysia and Indonesia all collapsed. True, China emerged largely unscathed. But it did so only because the state had in place a strict currency regime. In the West, national interest is often expressed through the free market. Competitiveness, trade and innovation will win the day. In China, this perspective is more nuanced. The market is at the forefront of economic policy, but only in the context of a towering state; for it is the latter that is determines Chinese national interest. The renminbi represents yet another faultline between the Chinese state and the market. Do Chinese policy makers genuinely see the renminbi as a fully convertible currency in the near future?

It is a question that feeds into the wider debate about China’s role in the global economy. To quote Deng Xiaoping, China’s paramount leader during the 1980s, perhaps this is economics ‘with Chinese characteristics’? State capitalism is on the rise – just as much as liberal capitalism is on the retreat. China has developed (what seems) a successful state-directed approach to economic growth, while the American economy flounders and Europe is submerged in a sovereign debt crisis.

There is no doubt that China and the West agree the renminbi’s internationalisation will continue. But whether these two parties share the same definition of ‘internationalisation’ is another issue entirely.