RMB Internationalisation Gets Boost from European Central Bank

The European Central Bank’s decision to swap some of its US dollar holdings for Chinese yuan could be a major milestone on the road towards internationalisation of the RMB.

Earlier this month the ECB offloaded approximately $560 million US dollars to invest in Chinese yuan, following the launch of a diversification strategy at the start of the year involving the incorporation of the Renminbi into its foreign exchange reserves.

While the investment comprises only 1% of ECB’s roughly 68 billion Euro in foreign-exchange reserves, some observers believe that it will serve as a major boost for China’s status within the Eurozone, as well as ongoing efforts to spur the internationalisation of the RMB.

The ECB move follows the International Monetary Fund’s decision to include Chinese yuan in its Special Drawing Rights Basket of reference currencies in October last year, serving to significantly shore up its international position.

United Nations macroeconomist Yongfu Huang points out, however, that the Chinese yuan still has a very long road to travel before it can even approach the status of the US dollar as a global reserve currency.

Writing for Asia Times Online Huang points out that only 2% of global payments involve the RMB despite China accounting for 10% of global gross domestic product. China settles only 20% of its foreign trade in RMB despite being the world’s biggest trading nation, as compared to the 60% settled in euros for Eurozone external trade, and 40% in yen for Japanese trade.

Huang nonetheless points out that the long road the Chinese yuan still needs to travel should serve as a spur for much needed financial reforms and policy improvements by Beijing.

“The internationalisation of the RMB has been an adamant national policy goal for Chinese government,” writes Huang. “We should expect to see improved industry-side infrastructure, strengthened financial regulations, a well structured deposit insurance scheme, improved market-driven exit mechanisms for financial institutions,etc.”

In order to advance the use of the RMB internationally, as well as accelerate progress towards full convertibility and true reserve currency status, Huang advocates that policymakers focus on three areas in particular.

The first involves maintenance of stable growth, stable exchange rates and low inflation, in order to prevent the types of abrupt cross-border money flows that compel regulators to step up capital controls.

The second will be deepening of capital markets, acceleration of the integration of onshore and offshore capital markets, as well as expansion of offshore markets and global RMB Liquidity.

Huang points to numerous measure already taken to expedite capital market integration, including the Shanghai-Hong Kong Stock Connect initiative permitting short selling of stocks by overseas investors, and the execution of swap agreements between the People’s Bank of China and other central banks to provide RMB liquidity to overseas markets.

The third and final area in Huang opinion is improvements to China’s legal and regulatory framework with the goal of firming up the trust and confidence of investors, as well as raising banking-sector stability by measures such as deposit insurance and greater transparency with respect to monetary policy and foreign exchange.

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