IMF SDR: 101

The recent article in the Wall Street Journal that the International Monetary Fund (IMF) has officially “green-lighted” the acceptance of China’s currency, the yuan into its foreign exchange basket has been played up in the social media sparking speculations that the yuan will become a viable global alternative to the US dollar. Some have even suggested that it will replace the US dollar as the international currency. An objective, informative and sober look at the situation should help clear the air and prevent undue decisions that could affect adversely one’s asset base and the marshalling of the appropriate currency for global trade and investments.

According to https://www.imf.org Factsheet (April 19, 2018), the Special Drawing Rights (SDR) is an international reserve asset created by the IMF in 1969 to supplement its member countries’ official reserves. So far, SDR 204.2 billion (equivalent to about US$291 billion) have been allocated to members. The value of the SDR is based on a basket of five currencies – the US dollar (41.73%), the euro (30.93%), the Chinese renminbi (10.92%), the Japanese yen(8.33%) and the British pound sterling (8.09%). The SDR basket is reviewed every five years or earlier if warranted to ensure that the SDR reflects the relative importance of currencies in the world’s trading and financial systems.

During the last review concluded in November 2015, the IMF Board decided that the Chinese RMB met the criteria for inclusion in the SDR basket, thus joining the other currencies effective October 1, 2016. Criteria for inclusion are export criterion (issuer of currency is an IMF member or a monetary union that includes IMF members who is one of the top five exporters of the world) and determined to be “freely usable” currency by the IMF (currency is widely used to make payments for international transactions and widely traded in the principal exchange markets). Clearly, since October 1, 2016, the RMB is a freely usable currency and can be used in Fund financial transactions.

All these remind me that since the 80’s, my friends in the Chinese academic and research circles have been asking me when will the yuan be accepted as an international currency and specifically when will the Philippines use yuan rather than the US dollar in its business dealings with China. My reply was always that conditions had to change – the free movement of the value of the yuan, the increase in trade between China and the rest of the world, more investments including Official Development Assistance (ODAs) and loans to the developing countries and greater Chinese contributions to international organizations like the United Nations and the World Health Organization.

Global business must be assured that the yuan’s value is dictated by the market rather than by the Chinese government. No one wants to keep assets in a currency where the decision of the government can suddenly decrease the value of one’s holdings. While it is true that a country’s actions on export and import policies, economic development, balance of trade, etc. can have either positive or negative effects on the value of its currency, these are different from changes determined by the government’s fiat.

Increased trade between two countries will make business consider dropping an intermediary currency like the US dollar the use of which gives rise to additional transaction costs and foreign exchange risk. It will be more convenient if not cost effective if payments of purchases as well as receipts of sales are in the currencies of both countries.

Increased investments in yuan will also stimulate the recipient countries to use the same currency in buying the equipment and expending other capital expenditures. Dividends and capital repatriation can be in the same currency. The ebb and flow of the investment funds will affect the volume of trade reinforcing the continuing use of the yuan.

As China increases its contributions to the international organisations the acceptance of the yuan as an international currency will be hastened. The timing is quite right considering that the United States under President Trump is retreating from the world’s center stage and attempting to retain its influence despite decreasing its support to the international community. The US President Trump will realise that bluster will not replace cold cash.

It is said that the world is captive to the US dollar with much of its assets denominated in that currency. The United States will continue to print more money and increase its fiscal deficit to astounding levels. But this can not go on forever. The global community will look for a viable alternative and shift towards that currency especially as China under Xi Jinping begins to dominate the world in economic performance, technology and innovation and leadership in sustainable globalisation in contrast to President Trump’s isolationist posture.

It may come sooner but rest assured, it will come.

melito.jr@gmail.com