Payments and settlement systems in China are changing. With the imminent arrival of the Chinese International Payment System (CIPS) and the second generation of the Chinese National Advanced Payment System (CNAPS), experts believe that the infrastructure necessary for the renminbi to become a fully-fledged global currency will finally be in place. What advantages will this brand-new payments landscape bring for corporates on the ground?
There is no doubt that the Chinese renminbi is on its way to becoming a major global currency. While the authorities in Beijing continue to liberalise the regulation controlling the flow of currency in and out of the country, the redback has risen (according to SWIFT data) to become the seventh most-used currency in the world in goods and services payments, overtaking 22 currencies in the past three years. Just two years ago, RMB-settled trade only accounted for 1% of China’s trade. Now it accounts for around 10%.
Clearly, RMB is becoming increasingly important: both to China’s international trade ambitions and the rest of the world’s trade ambitions with China. The growing expectation is that the currency will soon be able to attain the status, currently enjoyed by the US dollar, as the world’s reserve currency. However, there is one thing that the renminbi lacks compared with the dollar and other major currencies: a quality payments system in line with established international standards.
“Now that RMB has consolidated its position as a globally used currency, we expect the industry’s attention to shift to discussions on the best architecture for RMB cross-border transactions so the market can reach levels of operational efficiency, risk and liquidity management on par with other globally traded currencies,” Franck de Praetere, Head of Payments and Trade Markets, Asia Pacific, at SWIFT said in a statement earlier this year.
Prataere makes a good point. At present, multinationals trading cross-border with onshore Chinese entities face a number of challenges resulting from the poor efficiency associated with the country’s current patchwork of local payments systems. The root of the problem was that the current systems require a lot of manual intervention at nearly every stage of a transaction. For example, when a Chinese business sells something to an offshore entity, the name of the Chinese seller has to be converted into four-digit codes supported by ISO 20022 and then back to Chinese again for processing. While most global transaction banks use international messaging standards, one-to-one comparisons were not possible under the original CNAPS infrastructure. In addition there are also a host of difficulties in processing non-Latin characters in international transactions and, for European counterparties, the delays caused by time zone differences. With shortcomings such as these it is perhaps no surprise that businesses complain of the price of transactions in China and the time it takes to process them.
The Chinese authorities, aware of these challenges, now realise that the renminbi will never reach the status of an international currency unless the payments infrastructure in China is overhauled. That, it seems, is the rationale behind the plan to introduce the Chinese International Payments System (CIPS), announced by the People’s Bank of China (PBoC) in April 2012, and the Chinese National Payment System, ‘Mark II’.
Getting to grips with CIPS
Let’s begin with CIPS. The proposed payment infrastructure has four key elements, each of which should help to make trading renminbi in and out of China more efficient. First and foremost, the new system will provide a renminbi clearing and settlement network that’s fully integrated with the onshore financial system (see Chart 1), thereby enabling cross-border RMB clearing among both onshore and offshore participants. Secondly, the system will be multilingual and apply international reporting standards. Thirdly, it will be able to handle payments across a total of 17 different time zones across every continent simultaneously. And finally, it will run on SWIFT ISO 20022 XML standards, which will allow for optimal mapping between SWIFT message formats and the various CNAPS message formats.
CIPS was originally scheduled for roll-out in 2014; however, the project has been beset by both technological challenges and policy disagreements over how much currency users should be allowed to move in a single day, without undermining the country’s strict capital controls. As such, the roll-out is not expected to arrive on the market before 2016 at the earliest.
“China has been investing tremendous efforts on country clearing infrastructure. Thus we don’t foresee any critical issue to launch the system,” says Cathy Dou, Head of Global Transaction Services, China at Bank of America Merrill Lynch (BofA Merrill). “A phased approach may be adopted considering the large geography and complex situation, but we believe the new system will run smoothly when it is eventually launched, based on past experience of successful CNAPS and BEPS implementation.”
The new CNAPS
In the meantime, the PBoC will be focusing its attention on completing the migration of its domestic payment system to the second generation of CNAPS, which it began piloting back in 2010. Like CIPS, the launch is already behind schedule, having been announced for roll-out in 2012. The latest information suggests that it will be fully operational at some point in 2014, although there remains a lack of clarity over the exact timing.
“It will not be a ‘big bang’,” Frankie Au, Head of RMB Products, Transaction Banking at Standard Chartered told Treasury Today. “I think over the course of the next year we will see some banks in China begin migrating to the platform. But it will still take some time for the market to get used to the second generation of the platform.”
While CIPS will cater specifically for international transactions, the focus of the next generation of CNAPS will be on improving the infrastructure around the onshore use of renminbi. Development of the original CNAPS began back in the early 1990s but was not launched until 2005. CNAPS, a central bank-operated RMB clearing system, was designed to modernise the domestic payment system in China, handling both bulk electronic payments and large-value fund transfers. Unlike the various systems it replaced, CNAPS did not differentiate between intra- and inter-bank payments, local or national, and enabled an integrated national payments structure providing same-day settlements.
However, CNAPS’s design was, naturally, influenced by the realities and demands of the Chinese economy at that time and, as might be expected in a market changing at such a rapid pace, new demands and realities began to emerge almost as soon as the system became operational. For all its advantages over the systems it replaced, the first generation CNAPS suffers, amongst other things, from a lack of reliable data and information transparency. In order to address these concerns, the PBoC began work on an upgrade in 2010.
Enhancements to the functionality and security level of the existing system will be key features of the new system in development. In addition, CNAPS 2 will, like the forthcoming CIPS infrastructure, introduce ISO 20022-based standards and formats that will support a larger number of transaction types. Once the system has been fully rolled out the hope – or indeed expectation – is that, with a broader number of transaction types supported, banks will be able to greatly enhance the cash management services they provide to corporates.
STP at last?
So when it does finally arrive what exactly will the arrival of CIPS and CNAPS 2 mean for corporates in China or those offshore but trading with onshore Chinese entities? The hope is that the introduction of a system running on ISO 20022 – which can support an unlimited number of character sets – will eliminate the need for manual intervention and allow corporates in the region to finally achieve end-to-end straight through processing (STP) on their renminbi transactions.
This hope may, however, be misplaced – at least for the immediate future. Unfortunately, before the transactions can be settled, banks will be required to add codes detailing its purposes.
Offshore hubs and the RMB superhighway
While we have been waiting for the PBoC to announce that the new systems are fully operational, other new solutions for international RMB clearing have arrived on the market. In the past year, we have seen the establishment of a host of RMB ‘clearing hubs’ in Europe, as cities such as London, Frankfurt, Paris and Luxembourg compete for a share of the growing volume of RMB-denominated transactions.
Thanks to the development of these clearing hubs, companies in Europe will no longer need to route RMB payments via other financial centres, a development which should, at least hypothetically, mean lower costs when transacting with Chinese onshore counterparties. Also, with the hubs addressing Europe’s time zone disadvantage, the settlement process itself should be much more expedient.
Cheaper and faster payments are something corporates will surely embrace with open arms. Of course, as good as all this sounds, it does raise questions as to the future of the offshore clearing centres that have sprung up in nearly every corner of the world in the past few years. After all, with a direct link between the onshore market and the rest of the world, will these centres not become obsolete?
“For offshore banks, CIPS will allow them to access the RMB clearing system directly, engage in inter-bank clearing nationwide and transact inter-bank bond transactions real-time with counterparties. Therefore, for China’s big clearing banks, and RMB offshore centres like Singapore, CIPS might impact their privileged position,” says BofA Merrill’s Dou.
Others, however, believe CIPS will mostly complement, rather than replace the offshore centres. They say that rather than thinking of CIPS as a replacement, one should look at it as a ‘superhighway’ connecting these dispersed hubs, and fast-tracking their transactions back to the onshore market. To take the analogy a little further, just because a government has built a superhighway to speed up transportation between cities, doesn’t mean that the roads within the cities are now suddenly no longer needed.
Each of the markets in which offshore clearing hubs have been established have their own specialisation and should continue to attract a share of the global renminbi business. “In international payments and transactions the role of common global standards is very important in supporting the development of the RMB currency internationally. But CIPS doesn’t necessarily take away the need for having some of the offshore centres as well,” says Michael Moon, Head of Payments and RMB, Asia Pacific at SWIFT.
Singapore, for example, seems like a natural hub for South East Asia. France, similarly, is an important player in a number of the African markets that have become valuable trading partners of China’s in recent years. There will also be opportunities, he adds, to get involved in different types of transactions – such as securities – besides plain vanilla payments. “That way they can move up the value chain as well. There is plenty of room in the RMB market for different types of services and infrastructure,” Moon adds.
Evidently, the CIPS and CNAPS 2 payments systems are developments that corporates and transaction bankers have high hopes for. China does, of course, have a bit of a patchy record when it comes to big infrastructural changes such as these. To expect that things are going to change overnight may, then, be a little over-optimistic.
But once the PBoC eventually manages to get the new systems in place and fully functioning without any hiccups, there is every reason to believe it will mark the start of a new era with RMB, by then, well on its way to becoming the global reserve currency so many experts have prophesised it will be.