With the renminbi in the headlines again last week after the People’s Bank of China set the dollar reference rate at a record high, The People’s Daily addressed the future of China’s currency on Monday:
China should mainly focus on the international settlement function of the renminbi during the first decade and then in the next decade upgrade the renminbi’s function as an invoicing currency for financial transactions, followed by realizing renminbi reserves the decade after. During the past year, renminbi settlement of cross-border trade has expanded to the whole nation and reached a total volume of 209 million renminbi ($33.2 million) in 2011, just over three times the volume in 2010. Meanwhile, China has officially launched option trading of foreign exchange, which means the fundamental system of derivatives of the renminbi’s exchange rate has been established, with business expanding by 50 percent. Nigeria integrated the renminbi into its foreign exchange reserve system in 2011 and the Hong Kong Special Administrative Region has become an offshore trading center of renminbi pricing since 2009.
Though the speed of the renminbi’s internationalization has seemingly increased 20-fold from 0.02 percent in 2010, to 0.41 percent in 2011, it still has a long way to go compared with the euro’s internationalization of 35 percent and dollar’s 54 percent.
The first problem that must be solved to further internationalize the renminbi is its free convertibility. It took Japan 16 years to achieve this for its currency, 18 years for the United Kingdom and 20 years for Russia. However, it should be possible for China to realize this sometime between 2016 and 2020. If China can accomplish the construction of an innovative country in 2020, free convertibility of the renminbi would have a firm technological, industrial and management infrastructure after its internationalization.
Another challenge is steady and sustainable appreciation of the renminbi. However, as one of the world’s manufacturing centers, China is currently at the middle or low end of the global production system and mainly has trade deficits with neighboring Asian countries and trade surpluses with developed countries. If the renminbi is used for settlement with neighboring countries while the dollar and euro are still used for developed countries in the coming decade, during which the Chinese currency will mostly appreciate, our debt to Asian countries will become heavier while our creditor’s right against developed countries would suffer.
Reuters reports that with Chinese leaders growing more confident that the yuan is reaching fair value, the possibility of a more liberal trading band for the currency “creates a whole new ballgame” for investors:
“There are clearly both business opportunities and risks if the yuan is trading in a wider range,” said Wang Haoyu, economist at First Capital Securities in Shenzhen.
“The rare trade deficit in February relieved pressure on the yuan to appreciate and presented a good opportunity to test the waters for reform.”
In the domestic market, one result of the new volatility has been dollar buying by banks and corporations for short-term speculation, never seen before when the dollar mainly moved lower against the yuan.
More volatility also boosts potential profits, making it worthwhile to jump in for short-term speculators, and especially for astute PBOC-watchers in a market where the central bank still exerts substantial influence.