Currency swap to broaden yuan’s global use

China and Britain agreed on Sunday on a 200 billion yuan ($32.59 billion) line of currency swap that is expected to further broaden the Chinese yuan’s use in global trade and investment.

The swap would also give an edge to London in its plan to become an offshore center of yuan trading, in face of competition from global financial centers including New York, Paris and Frankfurt.

The People’s Bank of China said in a statement on its website that the agreement will take effect in three years and is aimed at “supporting economic and financial exchanges” and guarding “financial stability”.

It will also “provide liquidity to yuan trading in London and facilitate the yuan’s offshore use”.

Bank of England Governor Mervyn King said: “The establishment of a sterling/ renminbi swap line will support UK domestic financial stability. In the unlikely event that a generalized shortage of offshore renminbi liquidity emerges, the bank will have the capability to facilitate renminbi liquidity to eligible institutions in the UK.”

(It will) provide liquidity to yuan trading in London and facilitate the yuan’s offshore use .”

PEOPLE’S BANK OF CHINA

Britain is the last in a long line of countries that has signed currency swaps with China in recent years. Since 2008, China has signed currency swaps with 22 countries worldwide, totaling around 1.7 trillion yuan.

The moves are part of a bigger plan to make the yuan a global reserve currency along with China’s rising economic power. Besides signing currency swaps, China has also initiated the Renminbi Qualified Domestic Institutional Investor Program, which allows offshore yuan to flow back and be invested in domestic financial markets.

On the trade front, global transactions denominated in yuan are surging rapidly on the back of a government push. In 2012, cross-border trade settlement in the yuan rose 41 percent to 2.94 trillon yuan, while investment settled in the currency rose by 153 percent to more than 280 billion yuan.

HSBC Holdings PLC has predicted that the yuan will become one of the top three global trade currencies by 2015, settling half of China’s trade.

Internally, China is also speeding up reform steps to make its financial markets function more effectively.

On the equity market, for example, Chinese regulators have suspended new IPOs since November to address rampant poor accounting quality and fraud.

In another statement on Sunday, the People’s Bank of China vowed to “comprehensively use multiple money market tools to improve and strengthen liquidity management and guide loans and social financing to a stable and moderate growth”.

The statement came as the country has just seen the biggest cash squeeze in its financial history. On Thursday, the one-day interbank repurchase rate hit a staggering 13.91 percent, as the central bank refrained from using market tools to liquidate the money market. The rate then fell after reports saying the central bank lent money to “selected banks”, but it still stands at a high level.

The incident is widely seen as a show of determination by the central bank to bring down off-the-chart credit growth and restore normalcy in the money market. Total social financing jumped by over a third yearon-year in the first quarter to 6.16 trillion yuan amid lessthan-expected GDP growth, ringing alarms about the health of the economy.

Also in the statement, the central bank said it will further push ahead with interest rate marketization and reform of the exchange rate formation system to keep the yuan’s exchange rate “basically stable on a reasonable and equilibrium level”.

Financial experts in London welcomed the currency swap as a government endorsement to the city’s efforts to become an offshore yuan center.

Zhu Yinan, a senior associate at the international law firm Clifford Chance, said she is pleased to see London has “stepped up” to remain in “pole position” in the race to become the offshore yuan business center of Europe, because Paris and Luxembourg have become increasingly vocal on opportunities of yuan business in the last few months.

“This is of course good news for London, for the UK financial institutions and corporates, but, more important, good news for European companies that will benefit from using London as a hub for yuan, as it has been for other currencies and financial products,” Zhu said.

She said the significance of the swap is not only to provide a “liquidity safety net” to encourage more yuan trade and investment in Europe, but also will raise awareness and boost market confidence as it is an “official endorsement” from the Bank of England to reassure market participants that yuan liquidity will remain available.

London’s efforts to boost yuan business started in September 2011 when then Chinese vice-premier Wang Qishan, in his meetings with George Osborne, the British Chancellor of the Exchequer, welcomed private-sector initiatives for the development of an offshore renminbi market in London.

In the first half of 2012, the use of yuan for trade settlement in London increased by 390 percent year-on-year to 2.2 billion yuan. London also saw a few yuan bond issues in 2012 including one by HSBC bank and another by China Construction Bank.

Mark Boleat, policy chairman of the City of London Corporation, which oversees the running of London’s business district, welcomed the swap agreement, highlighting that London is the first city in a G7 country to do so.