Dubai International Financial Centre Economic Note No. 18
35 Pages Posted: 14 Dec 2011
Date Written: December 6, 2011
Today’s multi-polar world is increasingly tilting towards the burgeoning Chinese economy. As the US economy falters on fiscal sustainability, Europe remains in the throes of debt concerns and Japan struggles to regain its footing after being hit by the Fukushima earthquake, the world fears an impending re-descent into recession. After breaking into the global scene with economic reforms and entry into the WTO in the last decade, the growing international role of China spans trade, investment, foreign reserve accumulation and Sovereign Wealth Funds.
Despite the growing economic & financial international role of China, its currency, the Renminbi (RMB) remains largely a domestic currency. There are increasing calls for the RMB to become an international payment, investment and reserve currency. However, the move towards internationalization necessitates the development of an onshore capital market complemented by domestic policy reforms leading to a changed financial structure, with lower dependence on bank financing. China’s 12th Five Year Plan objectives provide for gradual capital account convertibility and removal of internal distortions – which could lead to interest rate liberalization and development of money market instruments and debt capital markets, the “Redback Market”. To achieve these goals, it is necessary for China to move towards capital account liberalization and RMB convertibility, complemented by a gradual reduction of remaining interest rate controls, development of the non-financial corporate debt market, along with greater exchange rate flexibility. However, the speed of adjustment and the sequencing of financial sector reforms are also important. External account liberalization should be preceded by domestic financial sector reforms and the removal of internal financial distortions.
Internationalization of the RMB forms an integral part of the process of capital market development and financial sector reform. To date, there have been three main channels of RMB internationalization: the introduction of the RMB as the settlement currency for cross-border trade transactions, the provision of RMB swap lines between the People’s Bank of China (PBoC) and other central banks and the creation of a RMB offshore market.
The RMB will emerge as the third global currency by 2015 and we anticipate: (a) a rise of the cross border settlement volume of the RMB to account for between 30-50% of the total export-import volume that is rising to USD 2 trillion; (b) growth in debt markets to about 30% of GDP would imply a quadrupling to about RMB 20 trillion (USD3.1 trillion); (c) increased use in foreign exchange markets and central bank reserves: the RMB could represent about 18% to 24% of global central bank reserves by 2015 or about USD 1.5 to 2 trillion!
The GCC has been rising in stature as a major trading partner for China with Saudi Arabia and the UAE among its top 20 major trading partners. It is in the GCC’s strategic interest to move towards greater economic & financial integration with China through accelerating the GCC-China free trade agreement, establishing links between financial markets, finance bilateral trade using the RMB and establishing RMB swap lines with GCC Central Banks. The growing trade and investment links between MENA/ GCC and China, create an opportunity for the DIFC to become a payments clearing centre for the RMB in the MENA region. The DIFC has the infrastructure, laws and experienced international banks and financial institutions with extended networks of correspondents for the DIFC to become the MENA region’s clearing centre for the RMB and the RMB market. The Redback cometh and we need to prepare for this momentous coming.
Keywords: Renminbi, Internationalization, Redback, China, PBoC, WTO, currency, trade, exchange rate, bond market, Yuan, GCC, Swap agreements, forex, reserves
Suggested Citation: Suggested Citation
Saidi, Nasser and Prasad, Aathira and Salomoni, Sara, The Redback Cometh: Renminbi Internationalization and What to Do About it (December 6, 2011). Dubai International Financial Centre Economic Note No. 18. Available at SSRN: https://ssrn.com/abstract=1971754
By Cédric Tille