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Report
OUTLOOK FOR THE
Renminbi
31.1.2013
by Marshall Gittler
Head Of Global FX Strategy
First, some terminology
• The official name of the Chinese currency is the renminbi (人民幣,
“People’s Currency”). Its symbol is RMB.
• The unit of the RMB is the yuan (元 or 圓). One yuan is divided into
100 jiao (角)
– Yuan is the same word as the Japanese yen and Korean won.
– It means round or circle.
• Its symbol is ¥
• China has capital controls, so a yuan that’s outside the country isn’t
the same as one inside the country.
• The official abbreviation for ones inside the country is CNY
(= Chinese yuan), while the ones that are outside the country are
CNH (for Hong Kong).
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What they are trying to do
• China is trying gradually to internationalize the renminbi
• 3 steps in internationalization:
– China and its major trading partners transact in RMB
– Widespread third-party usage of the RMB in financial and trade
transactions
– Central banks maintain sizable holdings of RMB as reserves
• There is no historical precedent for what they are doing
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How they are trying to do it
• China is following the same pattern with the RMB that they
did with liberalising the economy
• First tried out liberalising the economy in “special economic zones”
• They have a two-track strategy:
– RMB trade settlement
– Developing offshore RMB markets
• Eventually, they hope to make the RMB on par with the
dollar as an international reserve currency
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Milestones so far
•
•
•
•
•
•
2003: HK residents allowed to open CNH deposit
2005: Panda bonds (RMB bonds issued in China by non-residents)
2007: Dim sum bonds (RMB bonds issued in Hong Kong) begin
2009: Cross-border trade settlement in CHY begins
2009: Bilateral currency swap agreements with other CBs instituted
2011: HK brokerage firms allowed to sell RMB-denominated ETFs
that directly invest in mainland stock and bond markets
• 2011: Outward foreign direct investment allowed in RMB
• Countries that reportedly hold RMB bonds as part of their FX
reserves include: Japan, South Korea, Malaysia, Indonesia, Nigeria,
Chile and Saudi Arabia
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The #14 currency for payments
• Went from #20 to #14 currency for payments in just one year!
Source: Society for Worldwide Interbank Financial Telecommunication (SWIFT)
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HK markets
• After explosive early growth, volumes stalled in 2012
• RMB deposits in HK have fallen, dim sum bond issuance has
dropped as yields rose
Source: Bloomberg Finance L.P.
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Has internationalisation stalled?
• The globalisation of the RMB first stalled back in Oct. 2011, when the
market started forecasting the depreciation of the RMB.
• Globalisation based on expectations of currency appreciation is fragile.
Source: Bloomberg Finance L.P.
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CNH expected to depreciate
Source: Bloomberg Finance L.P., IronFX Financial Services
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Over long term as well
Source: IMF World Economic Outlook
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China forecast to have a
rising c/a surplus
•
•
If investors are no longer eager to hold RMB to benefit from expected appreciation, then it would help
globalisation if the country ran a current account deficit, which would mean it is exporting money.
However, it is still running a c/a surplus and this surplus is expected to rise sharply in coming years.
Source: IMF World Economic Outlook
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They now have both current
and capital account surpluses
• In fact it’s running both a current and capital account surplus,
meaning little if any net RMB are flowing out of the country at all!
Source: Bloomberg Finance L.P.
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Problems they face
• In order to get more RMB out of the country, they
have to liberalize the capital account so that
domestic investors can shift their assets out of the
country.
• The drive to internationalise the RMB is really a
drive to liberalise the capital account
– Officials in China are likely to agree that it’s good to have a
currency that matches China’s place in the world economy
– People who want to liberalise the capital account can use
that as a starting point that everyone agrees with and work
from there
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Problems they face
• A lot of people in China (reasonably) worry that
liberalising the c/a could lead to financial instability
–
–
–
–
–
Volatile capital flows could lead to inflation, deflation, crises
Rich Chinese could move money abroad, drain funds from banks
Domestic IR would have to be liberalized, raising the cost of capital
Exchange rate would have to be freed as well
Banks would have to be put on a commercial footing and freed to
allocate capital according to credit risk
– State-owned enterprises (SOEs) lose preferential access to capital
– Government would lose some levers for controlling the economy
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Problems they face
• The main impediment to opening the financial markets is the
govt’s desire to maintain direct control over the economy.
– This has been their developmental model up to now, and it’s worked
• The current system requires that depositors must remain
captives of the domestic financial system.
– If there were higher-paying alternatives to the banking system, money
would flow out of the banks and the government would no longer be
able to use state-controlled banks to direct investment
• Hence lifting capital controls and floating the exchange
rate would require the fundamental restructuring of
China’s economic model
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Real deposit rates are negative
• How long would money remain in the banks with negative real yields?
• A liberalised current account would force the government to raise
bank deposit rates, which would raise funding costs for companies.
Source: Bloomberg Finance L.P.
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Problems they face
• Authorities believe they can maintain domestic
financial as long as they restrict the return of
offshore RMB back onshore
• But the success of the whole project depends on
how much freedom overseas residents have to
choose RMB assets
– The globalisation plan depends on overseas investors
wanting to increase their holdings of RMB assets.
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China’s capital markets are
among the most closed
% of market owned by overseas
investors, 2009-2011
Equity
Bonds
China (ex overseas listed securities)
0.8%
0.8%
China (inc overseas listed securities)
8.3%
1.5%
US
13%
17%
UK
47%
39%
Japan
21%
4%
Germany
51%
45%
Brazil
27%
9%
Russia
14%
18%
India
20%
3%
Mexico
28%
12%
Vietnam
8%
3%
Source: Deutsche Bank
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Debt markets still small
•
•
•
China’s debt markets are about the size of Britain’s. Not small, but not
comparable to the size of China’s economy.
GBP accounts for 16% of global FX market turnover, 4% of global FX reserves.
JPY accounts for 22% of FX turnover, also 4% of reserves.
Source: E. Pradad and L. Ye, “Will The Renminbi Rule?”, Finance & Development Magazine, March 2012
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Financial deepening:
loans vs bonds
• Government bonds outstanding were much greater than bank loans
even before the explosion in govt debt following the financial crisis
• In China however the government bond market is much smaller than
the loan market, as the government prefers to direct finance through
the state-owned banking system.
Source: Bloomberg Finance L.P.
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Chinese banks look like US banks…
Bank of China
Market cap
$134.2bn
Bank of
America
$120.3bn
Employees
288,687
267,190
2011 earnings
$53.6bn
$94.4bn
Source: Bloomberg Finance L.P.
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…but there are big differences
Bank of China
Bank of America
$11mn
$1.7bn
3%
458%
3.16%
99.95%
56
1,790
2012 daily stock
mkt turnover
2012 turnover as %
of total shares
Free float as a %
of total shares
# of institutional
shareholders
Top shareholders
Central Huijin
Investment
96.6%
Blackrock
4.8%
China Life
0.31%
Vanguard
4.2%
Sino Life
0.06%
State St
4.0%
Source: Bloomberg Finance L.P.
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Reserve holdings increase
with financial deepening
• Use of JPY in reserves has fallen as Japan’s GDP shrank relative to US
• Same thing was happening with European currencies until EUR started;
then financial deepening increased use of EUR
• This shows the importance of deep financial markets in determining
which currencies become widely held reserve currencies
Source: IMF
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Problems they face
• Lifting capital controls and floating the exchange rate would
require:
– facing down tough political opposition & vested interests
– willingness to expose the country to new and unknown stresses and
external volatilities
– Implementing one of the largest set of economic and financial
reforms in recent history
• Even if you think all these things are worth pursuing, is now a
good time to pursue them?
The question facing China is not about the desirability of RMB
internationalisation. It is about the nation’s priorities in
reforming its financial and economic institutions.
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What is likely to happen?
“What is needed is a roadmap with a stronger and more
flexible exchange rate, more effective liquidity and
monetary management, with higher quality supervision
and regulation, with a more well-developed financial
market, with flexible deposit and lending rates, and finally
with the opening up of the capital account… If all that
happens, there is no reason why the renminbi will not
reach the status of a reserve currency occupying a
position on par with China’s economic status.”
Christine Lagarde, IMF Managing Director
18 March 2012, Beijing
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What is likely to happen?
• Gradual liberalisation is likely to continue, but at
a slow pace
• Full liberalisation likely many years away, if ever
• RMB likely to grow in presence, but not dominate
– Could become like Japanese yen – 3% of reserves
• Many years before it’s a major reserve currency
• Not a threat to the dollar’s position
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Future liberalisation steps
• Onshore companies borrowing RMB from HK
and remitting the money back (already begun)
• RMB-denominated commodity futures (gold,
copper) to be listed in Hong Kong, London
– HKEx completed takeover of LME in December
• RMB settlement of USD-denominated
commodity trades on the Chicago Merc, LME
• Issuance of RMB-denominated stocks in Hong
Kong
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London’s position
• London is trying to position itself as a centre for
offshore RMB trading
• It’s crucial to achieve 24-hour CNH trading
• Btu clearing CNH depends on the RMB RTGS
system in HK, where several UK banks already
participate
• Not included in UK settlement system and not
likely to be added either as it’s not convertible
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If you want to play…
• Some brokers offer CNH on their platforms
– Liquidity is a question; rates aren’t constantly updated
• The IMM offers deliverable CNH futures in
standard ($100k) and e-micro ($10k) size
– Options will be available later
• …but why play CNH when what you want
is to play the Chinese economy?
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AUD is much more volatile
Source: Bloomberg Finance L.P.
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Headline
goes
here indicators
AUDfollows
follows
Chinese
indicators
AUD
Chinese
Source: Bloomberg Finance L.P.
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AUD follows Chinese indicators
more closely than Australian ones
Source: Bloomberg Finance L.P.
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and more closely than
And more closely than CNY does
CNH does
Source: Bloomberg Finance L.P.
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In short
• RMB has been liberalised somewhat and liberalisation
will continue gradually, but it will be a long time if ever
before the RMB is a fully convertible and free floating
• The government retains control over the FX rate within a
set band. Its volatility is low and the rate does not always
reflect economic conditions
• RMB trade is relatively illiquid. Pricing updates are
infrequent and spreads are wide
• If you want to trade the Chinese economy, look at trading
AUD/USD or AUD/JPY
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