Marsh on Monday: Aiming for clout, China wants world to use the renminbi

By David Marsh, MarketWatch

SINGAPORE (MarketWatch) — Senior U.S. monetary officials, both in office and in retirement, habitually muse about America’s celebrated “exorbitant privilege” — the ability to earn far more on its foreign assets than it pays out on its liabilities, a consequence of the reserve-currency status of the dollar /quotes/zigman/1652083/delayed DXY +0.01%  . The general view from senior Americans is that the benefits given by the celebrated privilege are exaggerated and the dollar’s international status is more trouble than it’s worth.

Well, that’s not the way China sees it.

One of the reasons behind the currency liberalization drive of the Beijing authorities is to carry out a large-scale switch in the country’s asset-management procedures to enable far more international trading and investment transactions in the renminbi /quotes/zigman/4869230/realtime/sampled USDCNY -0.0105%   (also called the yuan) rather than the dollar.

This includes allowing the renminbi to be much more extensively used in pricing commodities than has been the case for the present No. 2 currency, the euro /quotes/zigman/4867933/realtime/sampled EURUSD +0.0073%  . One of the big themes for international banks and financial companies in the next 10 years will be a progressive “renminbi-ization” of internationally traded investments — whether in stocks, bonds or privately traded vehicles.

China is attempting to shift more of its foreign assets into investments held outside its giant, mainly dollar-denominated foreign-exchange reserves — and move much more to instruments valued in its own currency.

One further step towards greater currency flexibility and enhanced use for cross-border transactions came last week after talks in Beijing between the U.S. and Chinese governments under which Beijing pledged to “reduce foreign-exchange intervention as conditions permit.”

The two sides will refrain from competitive devaluations and extend the number of areas of their domestic industries open to reciprocal foreign investment. Although the strategic relationship between the world’s two foremost economies remains bedevilled by mutual suspicions about political and military power plays in Asia, China plainly regards economic liberalization — vis-a-vis the U.S., European and important Asian economies — as an important tool in its drive to increase its own international financial clout.

The Chinese authorities have made clear that liberalization will be gradualist and will not lead to a laissez-faire “bonfire of controls.” China is making categorical efforts to learn from other countries’ experience. The post-war Eurodollar market in offshore dollars in Europe was built up largely because domestic U.S. limits on interest rates paid on deposits encouraged banks to offer higher deposit rates for dollars held in European markets — and also because institutions from the Soviet Union and other members of the Eastern bloc wished to maintain dollar holdings beyond the immediate jurisdiction of the U.S. Treasury.

Renminbi trading and investment activities in Europe, by contrast, will be less driven by opportunistic market-building and much more so via a state-inspired attempt to raise the market share of renmimbi operations and challenge the dollar’s supremacy.

Shutterstock/Dmitry Kalinovsky

China sees London as a premier hub for European renminbi operations, with important activities connected to the euro area taking place in Frankfurt, Paris and Luxembourg. The authorities in Germany are keen to encourage a Frankfurt-London partnership in renminbi under which the U.K. capital takes over the main responsibility for global transactions in the Chinese currency while the leading financial center on the European continent becomes the principal gateway for euro-based, industry-focused renminbi deals.

All this may be easier said than done.

One significant incentive for the Chinese authorities to speed renminbi-ization is China’s lamentable track record in making returns from its large net foreign assets. There are signs that China takes this seriously.

A research paper from the Basel-based Bank for International Settlements in September 2013 came up with intriguing reasons why China and Germany, respectively the world’s No. 2 and No. 3 creditor nations (Japan is No.1), have recorded entirely different performances in their overall foreign investments over the past 15 years.

At the end of the 1990s, both countries had rather slender net foreign assets, with China in negative territory and Germany close to zero. A string of large-scale current-account surpluses in the first decade of the 2000s changed all that, with China advancing to a peak of more than 30% of gross domestic product in net foreign assets (excess of assets over liabilities) by 2007, before retreating to around 24% more recently following the fall in the country’s current-account surplus.


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