Transaction services guide 2014: Redback rising

Duncan Kerr
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The renminbi’s meteoric rise as a payments and trade currency has brought it closer to becoming mainstream than ever before. Precisely when this will happen is anyone’s guess. That it will is inevitable.

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The debate rumbles on around when exactly during the 1920s and 1930s the US dollar surpassed sterling as the world’s leading international currency.

Now, though, what is indisputable is that China will surpass the US as the world’s largest economy – possibly by the end of this year – and the renminbi will almost certainly continue its rise and at some point in the next decade will start to directly challenge the US dollar as the leading international currency.

That will be a profound event when it comes, symbolizing and confirming China’s rise as a world economic and political power as much as underlining the fall of the US and the west’s long-held economic supremacy.

The internationalization of the renminbi is essential for this to happen, which is why Beijing has been prudently hastening the currency’s use in recent years through a liberalization programme that Adam Smith would have been proud of.

World payment currencies vs. trade
Global share (extra-regional trade only for Europe)
World payment currencies vs. trade  
Source: WTO, Swift, Standard Chartered Research

China’s new leaders have galvanized this free-market push since taking charge early last year, bringing about capital market and interest rate liberalization and establishing the Shanghai Free Trade Zone in the first few months of office.

Since then, interest rates have been freed up for foreign-currency deposits and within the SFTZ – a testing ground for economic reform – restrictions on cross-border capital flows have been removed. In addition, the daily trading band for the spot rate between the renminbi and the US dollar has been widened from 1% to plus or minus 2% a day, providing greater freedom around market pricing.

Taken together, these reforms highlight China’s commitment to reform and point to capital account liberalization being closer than ever before.

The opening up of the capital account, enabling companies and investors to trade the renminbi across China’s borders without hindrance, is seen as the crucial reform for the currency to emerge as a truly global rival to the US dollar.

"If the authorities can, in time, loosen up the capital account, that would be great for companies," says Rachel Miao, finance director, China, for Dover Corporation, a US-headquartered manufacturer of specialized industrial products and equipment.

The consensus view is that this will happen by 2020, but it could reasonably be expected to occur in the next two to three years, according to HSBC.

In international payments and trade settlement – a vital artery of the global economy – this reform in particular is seen as one that might help trigger a big-bang moment when companies worldwide truly embrace the renminbi and use it pari-passu with the dollar, euro and sterling to pay for goods and services.

Evan Goldstein, Deutsche Bank
"China is currently the number-two world economy, it has the seventh-largest traded currency and it is one of the most significant exporters. The only missing piece is capital account reform and full convertibility"

-Evan Goldstein, Deutsche Bank
"China is currently the number-two world economy, it has the seventh-largest traded currency and it is one of the most significant exporters," says Evan Goldstein, managing director, global head of renminbi services, Deutsche Bank. "The only missing piece is capital account reform and full convertibility."

Kee Joo Wong, head of global payments and cash management, China, at HSBC, says that should this happen there is a distinct possibility the renminbi will become a top-five world payments currency within five years from now.

The renminbi has a long way to go before it achieves this status, but it has already made dramatic progress in the past three years alone, overtaking 22 other currencies to break into the top-10 most used currencies for payments and trade settlement for the first time this year.

In March, the renminbi was the seventh-most-used currency, with a new record-high share of 1.62%, according to Swift data. Standard Chartered estimates that renminbi trade-settlement volumes could quadruple to $3 trillion by 2020 – making it the fourth-largest payment currency in that time behind the US dollar, euro and sterling.

Capital account reform and full convertibility of the currency is vital for this to happen, but ahead of that time are the world’s largest multinational companies ready to ditch the dollar for the renminbi? And beyond the focus on and excitement around this policy event, what is it actually going to take to make the renminbi a mainstream international payment and trade-settlement currency?

Early momentum

Faith and trust in the authorities has a large part to play in answering that last question. Much of the renminbi’s early momentum, spurred on by Beijing’s reformist zeal since 2009, has come from those multinational companies that buy from and sell to China vast quantities of goods and services, in turn creating a naturally deep demand to do business with the China in its own currency.