ROOM TO GROW
Despite its rapid expansion, the yuan still has some distance to go before its share of global payments matches the size of the Chinese economy
In April, London overtook Singapore as the largest yuan clearing center outside China. In September, the United States got its first yuan clearing bank. A month later, the yuan officially became a global reserve currency.
The pace of expansion of the yuan has been relentless and belies the reality that, in terms of global market share, the growth is only just beginning. The worldwide use of the currency remains much smaller than it should be.
“Currently, there is discordance between the position of the RMB as a payment currency and the weight of China in the global economy,” said Michael Moon, head of payments markets for Asia Pacific at SWIFT, the Society for Worldwide Interbank Financial Telecommunication, a global transaction services organization.
“In terms of ranking, we prefer to look at the longterm trend when it comes to RMB internationalization. Just three years ago, in August 2013, the RMB was ranked at position No 9 (of the world’s currencies most used for payments) with a share of 0.84 percent,” Moon said.
“In the last three years, the RMB overtook several currencies including the Swedish krona, Hong Kong dollar, Swiss franc and Canadian dollar.
“There is still a lot of room to grow for the RMB.”
The yuan is now the world’s fifth most-used currency for payments, with a 2.03 percent market share. In early 2014, it was at seventh place with a global market share of 1.39 percent.
In September, Bank of China was appointed as the first yuan clearing bank in the US, one of the last major economies without such a facility. It is becoming increasingly difficult to find a country that does not deal in yuan or from which a business cannot handle payments into China using the currency.
Some 1,247 banks around the world already use the yuan for transactions into the Chinese mainland and Hong Kong, according to SWIFT.
A decade ago, Hong Kong was the only offshore yuan clearing hub. Today, the world has more than 20 and counting. Fifty-seven countries now use the yuan to make more than 10 percent of their direct payments to the Chinese mainland or Hong Kong, according to SWIFT, and 101 countries use the yuan in some fashion — that is about half of all the countries in the world.
In more developed Western Europe, in places such as France, Switzerland and Germany, the progress continues but at a slower pace.
In the Middle East, the forward march has been relentless. The value of payments done in yuan in the United Arab Emirates, for example, grew 211 percent between August 2014 and August 2016.
In the UAE, more than 81 percent of payments into the Chinese mainland and Hong Kong are already carried out in yuan compared to just 11 percent in Germany, where 80 percent of payments into China are in euros.
But the growth in market share, rapid as it has been, is likely to flatten out with much of the low-hanging fruit already taken up.
SWIFT’s Moon pointed out that the gap in the value of payments between the yuan and the yen, the world’s fourth most-used currency, remains quite large at 2.03 percent of total payments versus 3.53 percent, as of September.
Much of the growth to date has been driven by the expansion of Chinese corporates globally, with banks following them around the world and providing services. So far, however, most of these services have been aimed at Chinese companies rather than international ones. The shift is likely to take some time.
At the same time, the perception that China is willing to spread the yuan globally in the form of cheap loans and virtually free credit is not exactly based in reality, said Ben Simpfendorfer, managing director at economics consultancy Silk Road Associates.
“It is not free money,” said Simpfendorfer, who is also the author of two books on the Chinese economy. “It is cheap, when there is a compelling reason to do a deal … China is just more risk averse.”
The perception that China is out there handing out money with no strings attached is a hangover of a bygone era, he said.
“China is certainly not buying up Africa or Latin America. (The idea) is a legacy of the last decade (when) it was chasing resources. It was an immature investment strategy.”
Even if China has become savvier and more careful in how it pours yuan around the world, more countries and companies are using the currency every day. The growth of the yuan’s internationalization continues at a rapid pace.
Since Oct 1, the yuan has officially become part of the elite special drawing rights basket of the International Monetary Fund, alongside the dollar, euro, pound and yen. The yuan makes up 10.9 percent of the basket.
The inclusion is likely to encourage central banks to increase their yuan reserves. This could amount to a few hundred billion dollars in the coming years.
Known as the Currency Composition of Official Foreign Exchange Reserves, the total value of foreign exchange held by central banks around the world adds up to to $7.2 trillion.
The dollar accounts for about two-thirds of this and the euro about 20 percent, with the yen and pound taking up about 5 percent each. Should the yuan hit the level of the last two, it could see central banks stockpile as much as $360 billion in yuandenominated savings.
For all the progress, however, the yuan has a long way to go before it takes up a share of payments globally that is commensurate with the size of the Chinese economy.
Some 1.86 percent of global payments by value are done in yuan, but the country’s economy accounted for 16.32 percent of global GDP as of 2014, up from 9.68 percent a decade earlier and four times as much as a quarter of a century ago.
By comparison, the US share of global GDP, in terms of purchasing power parity, in 2014 was 16.14 percent, down from 19.64 percent a decade earlier and 22.28 percent 25 years ago.
Japan, the next largest economy, accounts for 4.4 percent of global GDP.
Looking through the lens of current prices, another way to measure GDP, the US has by far the largest share of global GDP at 24.5 percent while China accounts for 15 percent. In either case, China’s share of the global economy would suggest that use of the yuan must expand.
Reforms have helped shore up confidence in the stability of the yuan and its viability as a reserve currency, notwithstanding the drops. High levels of corporate debt in China are a concern and there are widespread expectations of further slowdowns in economic growth.
“Officials at the (People’s Bank of China) have, since January, kept sending out signals that they will keep a prudent monetary policy and they don’t intend a protracted weakening of the yuan,” said Liu Ligang, managing director and chief China economist at Citigroup.
He said the central bank also aims to ensure that sudden depreciation of the yuan, as happened in August last year, will not happen again.
“The related government policies also help stabilize market expectations.”
That stability, the inclusion of the yuan in the special drawing rights basket and China’s influential position in global policymaking should all bolster the role of the currency in global trade and finance.
“I think the market has overpriced the risk in China and does not price in the more open capital market to foreign investment,” said Liu.
Around the world, more bonds are being issued in yuan by governments and companies.
Markets occasionally still get nervous about sudden drops in the value of the currency. In August 2015, the People’s Bank of China adjusted the value of the yuan downward by 2 percent in a day.
Investors were spooked and capital outflows spiked. Since then, however, both outflows and the value of the Chinese currency have stabilized. The trend is visibly toward a weaker yuan but also toward greater stability.
“It is becoming more market driven and so, in that sense, it is helping to reduce some of the imbalances in China,” said Alaistair Chan, an economist at Moody’s Analytics. “It is interesting that it has continued to depreciate even though the outflows have slowed down.”
This stability, said Chan, should help with the yuan’s ongoing global expansion, although he believes that after the rapid momentum in recent years, a slowdown is in the offing. He expects the currency to remain at or around the fifth spot globally for some time.
“I would not be surprised if it stayed there for the next couple of decades,” he said.