European capitals scramble to arrange currency trade deals with China
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European capitals scramble to arrange currency trade deals with China

China has been inching towards full currency convertibility – and perhaps reserve currency status for the renminbi – with a number of developments that amount to an acceleration in its trade liberalisation programme. FX swap lines are largely symbolic but yield practical benefits in liquidity crises.

After much lobbying by UK bankers, in February China agreed a reciprocal three-year, renminbi-sterling currency swap arrangement with the Bank of England. The deal will ostensibly boost market confidence in the provision of offshore renminbi liquidity. Recently France has looked to get in on the act. Christian Noyer, the governor of the Bank of France, indicated Paris is working on offering similar arrangements, as has been extensively reported in the Chinese press, though the Bank of France itself was unavailable for comment.

China has shown considerable enthusiasm for these kinds of currency swap arrangements, with existing deals in place for a host of commodities exporting countries, including Australia, Argentina, Belarus, Hong Kong, Iceland, Indonesia, Kazakhstan, Malaysia, Mongolia, New Zealand, Singapore, South Korea and Uzbekistan. Taken together these deals accounted in November 2012 for trade worth a notional $272 billion.

The initial focus on its commodity trading partners illustrates China’s pragmatism as it gradually internationalises its currency, allowing its companies, and foreign companies doing business in China, to bypass the dollar, and transact in renminbi. But the deal with London, and a potential deal with Paris, indicates the process has reached a new phase, extending beyond its commodity needs into the broader economy, say analysts.

To this end the UK deal serves as a mark of official endorsement. That is hardly necessary for those on the European side of transactions, but offers comfort to Chinese counterparties less familiar with international trading, says Mark Boleat, chairman of the policy and resources committee at the City of London Corporation.

For the Bank of England – and the Bank of France if it pulls off a similar deal – the move is principally about market stability, ensuring there is always sufficient liquidity for cross border trade to be settled in renminbi.

“In the unlikely event that a generalised shortage of offshore renminbi liquidity emerges, the Bank will have the capability to provide renminbi liquidity to eligible institutions in the UK,” says the BoE.

There is also a competitive aspect for those wishing to gain advantage for one city as a financial centre versus others. The UK deal increases its appeal as a European financial centre for Chinese companies, and international companies wishing to do business in China, advantages Paris would naturally love to replicate.

Since June 2012 all Chinese enterprises engaged in international trade have been permitted to settle cross border transactions in RMB, when an existing pilot scheme applying to a limited number of companies was extended to its logical conclusion. By September 2012, cross-border RMB payments totalled RMB279.65bn, or 10% of total transactions, up from only 2.5% in 2010.

With conventional macroeconomic wisdom stipulating that RMB would only rise against the dollar and other currencies, most Western corporates initially preferred to keep their RMB offshore, meaning around 80% of cross border RMB settlement was by Chinese companies used for imports. Since the financial crisis the currency outlook has become more balanced, and by late 2012 their share had fallen to 60%, with 40% for non-Chinese exporters.

This has also helped to drive convergence between offshore and onshore renminbi prices, which have in the past traded at a significant spread, but today track each other closely.

There is still plenty of scope for the business to grow. Foreign currencies – principally the US dollar – still account for 90% of all cross border trade involving China. Considering China is the world’s largest exporter, and second largest importer, this represents a considerable portion of world trade.

As more international trade is transacted in renminbi, it makes sense for central banks to have the power to step in and provide liquidity where necessary.

The exact details of the arrangements are as yet unknown. The specifics of the UK deal will be published in due course, while there has still been no official word from China about a deal with Paris. In Hong Kong, liquidity was offered through selected institutions, but in the UK the BoE would probably make liquidity available via any registered banks.

But there is some logic to China arranging a swap line with Paris – and potentially a number of other financial centres throughout Europe. Paris Europlace, a lobby group for Paris as a financial centre, estimates France has renminbi deposits worth RMB €10bn, putting it second only to London in Europe. It also states nearly 10% of Sino-French trade is settled in RMB, while French companies have issued RMB-denominated bonds in Hong-Kong to the value of RMB7bn in 2011 and 2012.

Europe accounts for 14% of total Chinese exports and 10% of total Chinese imports, Paris Europlace says. China is the third largest destination for French exports, at 3%, behind only the EU and US, and the second largest foreign supplier to France, after the EU, supplying 8% of total French imports.

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