Internationalizing the RMB

October 1, 2016, was a big day for China: The Chinese Yuan (Renminbi or RMB) has been included into the basket of special drawing right (SDR) of the International Monetary Fund (IMF), marking a milestone in the internationalization of the RMB. The RMB has a 10.92 percent share in the SDR, while the weights of the U. S. dollar, Euro, Japanese yen, and British Pound are 41.73 percent, 30.93 percent, 8.33 percent and 8.09 percent, respectively.

Statistics from the Society for Worldwide Interbank Financial Telecommunications (SWIFT) show that the RMB accounts for 8 percent of global trade financing and nearly 2 percent of global trade settlement. According to the latest statistics from the Bank for International Settlements (BIS), the RMB’S share in global foreign exchange trade has doubled over the past three years, from 2 to 4 percent. However, another important indicator shows that its share as a global reserve currency is little more than 1 percent.

Generally speaking, the RMB still remains comparatively low in market share indicators as an international currency. By contrast, the weight it shares in the SDR basket is heavy but fair. The SDR mainly assigns its shares according to the currency issuer’s exports. Over the last few years, China has seen substantial growth in trade: It became the largest exporter in the world in 2009 and the world’s largest trading nation when it overtook the United States in 2013. China’s exports accounted for 14 percent of the world’s total in 2015. The weight of the RMB as defined by the SDR is an official affirmation of its international standing.

As the RMB becomes more internationalized, its inclusion into the SDR basket will surely help enhance its market reputation and degree of acceptance. It’s a win-win situation for both the RMB and the SDR. The SDR was first designed to serve as an international reserve currency, replacing the U. S. dollar. However, the market has ignored it since its inception, with no one willing to pay for its marketing. During the G20 London Summit in 2009, Zhou Xiaochuan, governor of the People’s Bank of China, shared his insights on the severe impact from the dominance of the U. S. dollar in the international currency system and declared that China was working on SDR market application, provoking positive responses from the international community.

As the RMB was being included into the SDR, China promoted action to expand the SDR’S international influence on the global market. Since April 2016, the People’s Bank of China has published its foreign currency reserve data calculated in the U. S. dollar and the SDR. As declared by Governor Zhou Xiaochuan, China’s central bank was working on issuing bonds evaluated with the SDR. Considering China’s economic mass and weight, these measures would likely boost the SDR’S international standing.

The current international currency system is plagued by structural defects. The dominant role of the U. S. dollar has resulted in greater risk and instability, presenting rigid challenges for the global economy in terms of maintaining sustainable, steady growth. Reform, therefore, is imperative and will surely disturb the “core benefits” enjoyed by currency-dominant countries such as the United States. This issue is the most glaring reason no reform has yet been enacted despite many years of discussion. The SDR basket is strongly inclusive and likely to be accepted by more parties, giving it a better chance to improve the international currency system by accelerating application of the SDR. Consequently, the RMB encountered little trouble joining the SDR basket.

All involved parties have compromised to accept the RMB, with strong support from Europe in particular, which proved crucial.

Compared with weights before the RMB’S inclusion, the U. S. dollar dropped from 41.9 percent to 41.73 percent, the Euro from 37.4 percent to 30.93 percent, British Pound from 11.3 percent to 8.09 percent, and the Japanese yen from 9.4 percent to 8.33 percent.

To meet necessary technical criteria, the Euro and British Pound each offered to give up “a big piece,” and France offered support to amend relevant rules of “free convertibility.” All these moves reflect Europe’s strong will to drive reform of the international currency system and help the RMB play a more active role internationally, to better balance the system.

China will seize this opportunity to strengthen its coordination and cooperation with Europe and play a more robust role in establishing a fairer, more rational international currency system and improving the governance of international finance, so it can meet great expectations from the international community and accelerate the RMB’S internationalization.