Renminbi in focus: diversification and internationalisation

Bank of China (Hong Kong) comments on the case study interviews conducted by Central Banking and discusses China’s GDP growth and renminbi internationalisation, the renminbi as a financing currency and its role in cross-border settlement

All the central bank representatives in this report’s case study interviews about investment in renminbi are optimistic about the medium- to long-term potential of China’s economy and its increasingly important currency, renminbi. Even in the recent complicated and fast-changing economic environment, interviewees said they did not reduce their renminbi investments – some even increased their renminbi asset allocation. It is encouraging to know that some interviewees are willing to carry on increasing this asset allocation in the future. Some said they will remain conservative in allocating renminbi assets because of concerns over renminbi liquidity and US interest hikes. Considering these factors, this commentary discusses China’s economy and renminbi internationalisation, new opportunities for the renminbi to become a financing currency and increasing demand for renminbi cross-border settlement.

Growth and international positioning

China’s economy is steadily progressing, with further enhancements in renminbi internationalisation.

China reported annualised GDP growth of 3.9% in the third quarter of 2022 – higher than market expectations of 3.3% and 0.4% of GDP growth in Q2. It shows that the economy continues to recover, production demand continues to improve and the overall operation is within a reasonable range. Meanwhile, according to September data from China’s General Administration of Customs, China exports and imports rose 10.7% and 5.2% year-on-year. The total trade volume of imports and exports accounted for CNY3.81 trillion, up 8.3%, with a trade surplus of CNY573.6 billion. With China’s policy of ‘steady growth’, consumer demand continues to recover and foreign trade and investment grow steadily, indicating that the Chinese economy is still resilient.

The People’s Bank of China’s 2022 RMB internationalisation report shows that China’s financial market continues to open up, and renminbi assets remain attractive to global investors. By the end of 2021, the total amount of foreign holdings in renminbi stocks, bonds, loans, deposits and other financial assets accounted for CNY10.83 trillion – up 20.5% year-on-year.

The report also reveals that, in 2021, the total amount of cross-border renminbi payment on commission reached CNY36.6 trillion – up 29.0% year-on-year, reaching a record high. According to Swift, the renminbi international payment share increased to 2.7% in December 2021, surpassing the Japanese yen to become the fourth-largest payment currency in the world. Renminbi’s international payment share further increased to 3.2% in January 2022 – a new record high.

According to the International Monetary Fund (IMF), the renminbi accounted for 2.88% of global foreign exchange reserves in Q1 2022, up 1.8 percentage points from 2016, when the renminbi was first included in the special drawing rights (SDR) basket, ranking fifth among major reserve currencies. In May 2022, the IMF increased the weighting of renminbi in the SDR from 10.92% to 12.28%. According to data released by the Bank for International Settlements in October, trading volume in the global FX market rose to a record high, with the renminbi growing the most, accounting for 7% of the total, making it the fifth most-traded currency. This data reflects the growing acceptance of renminbi.

The People’s Bank of China states in its report that, in the next stage of internationalisation, China will continue to open up its financial market and improve the liquidity of renminbi assets. China will also provide a more convenient way for foreign investors to invest in China markets by diversifying investable assets and encouraging foreign investors – especially central banks – to allocate more renminbi assets. Further strengthening cross-border renminbi usage arrangements, fulfilling the real sectors’ renminbi usage demand, promoting two-way opening up of the financial market and promoting the interconnection of onshore and offshore renminbi markets will also be key future developments. It is therefore believed that more foreign investors – including individuals, financial institutions and central banks – will be willing to hold renminbi assets.

Renminbi as a financing currency

During the interviews, central bank representatives said that their renminbi asset allocations are mainly in deposits and bonds, adding that their expectations that renminbi bonds will become the main asset allocation in the future. At present, the US is entering an interest rate hike cycle, making the dollar index continuously rise, driving non‑US dollar currency traded lower against the US dollar, with emerging market currencies falling by about 30%. For example, the Japanese yen, South Korean won and Australian dollar are down about 20%. Yet, renminbi is relatively stable against the US dollar compared with other emerging market currencies, with lower volatility compared with some major currencies, such as the euro, yen and sterling. As renminbi has demonstrated resilience in global financial market volatility, it is believed the global acceptance of the renminbi will further increase.

The US yield curve has flattened recently, and short- and long-term yields have inverted. US and China interest rates also inverted. For example, in the past few years, two-year Chinese government bond yields were higher than US government bond yields by 100–200 basis points. However, in November 2022, US government bond yields were higher than China’s – about 4.61% versus 2.12%, respectively – meaning the US dollar is no longer a cheap financing currency.

We have also noticed that more financial institutions such as the World Bank, KfW – the world’s largest national development bank – and the European Investment Bank have successfully issued dim sum bonds. The issuance of these bonds in the first half of this year has exceeded that of 2021 and reached a record high, surpassing the peak of issuance in 2014. As the US Federal Reserve continues to raise interest rates sharply and the US-China interest rate spread continues to widen, it is believed that more international organisations, multinational corporates, international banks and even some foreign governments will use offshore renminbi bonds as financing instruments.

Globally, renminbi financing costs are low, with rising renminbi acceptance and a relatively stable exchange rate compared with other currencies. Also, the People’s Bank of China maintains reasonable liquidity and China’s inflation is under control. These factors provide a favourable environment for renminbi to become a global financing currency.

Moreover, most foreign investors look for long-term investment return rather than short-term speculation. Foreign holdings in China markets are still generally at a low level. Renminbi assets have a lower correlation with developed and emerging economies, which is favourable for international investors and central banks to diversify their asset allocation and decrease portfolio volatility. As China’s long-term economic growth remains positive and renminbi assets are secured, profitable and highly liquid, it is believed foreign holding in renminbi assets will steadily increase and it is expected that renminbi assets will attract more foreign capital inflow in the future.

Data from China’s General Administration of Customs shows that China’s foreign trade growth remains strong, driving overseas demand for using renminbi for cross-border settlement, especially in countries participating in the Belt and Road Initiative (BRI) and the Regional Comprehensive Economic Partnership (RCEP).

Renminbi has been widely used in trade and investment in BRI countries, as using renminbi can reduce FX risk, avoid FX rate fluctuations and lower FX cost. By the end of July 2022, to support local renminbi settlement, China has established bilateral currency swap arrangements with more than 20 BRI countries, and has established the renminbi clearing arrangement in more than 10 countries. Countries in the BRI area generally support renminbi internationalisation and accept renminbi as the currency for trade and investment settlement. Chinese corporates use renminbi more frequently in infrastructure contracting, manufacturing investment and trade with the mainland. An increasing number of local corporates, individuals and financial institutions are also willing to hold renminbi, which has become an important driving force for the internationalisation of renminbi. With the Fed raising interest rates and shrinking its balance sheet, there are signs of capital flow returning to the US. Meanwhile, financing costs are also rising. Decreased US dollar usage by BRI countries will benefit renminbi trade settlement.

There is obvious demand for renminbi cross-border payment in the RCEP region. The RCEP is the world’s largest free-trade zone, accounting for about 30% of the world’s population, trade volume and GDP. Trade between China and the Association of Southeast Asian Nations (Asean) stood at US$544.88 billion between January and July, up 13.1% year-on-year, according to official data. China has been Asean’s largest trading partner for 13 consecutive years. Therefore, renminbi has the conditions to become a major trading currency in the region. In promoting regional monetary co-operation, local currency settlements (LCSs) are a good example. In September 2021, China and Indonesia started an LCS and established regional markets in Zhejiang province, which allow renminbi to be traded directly with the Indonesian rupiah. The current average monthly trading volume recorded an obvious increase. The LCS mechanism has gained market confidence and popularity, and it has effectively promoted the status of renminbi as a regional settlement currency. Therefore, as companies worldwide conduct more trade with China, central banks are gradually increasing the renminbi proportion of their FX reserves to meet their settlement needs.

Renminbi in reserves

To conclude, in the complicated international environment and in light of the ongoing situation regarding the Covid-19 pandemic, China maintains stable improvement in renminbi internationalisation and market-driven characteristics, and allows corporates free selection in renminbi usage. With the deepening of China’s open policy and renminbi currency supply channels remaining open, it is believed the renminbi cross-border payment will continue to grow, and the attractiveness of renminbi as a reserve currency will gradually improve. The willingness of central banks and monetary authorities worldwide to hold renminbi reserve assets is sure to increase further. 

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