By G. Bin Zhao
After the agreement to allow direct trade between the yen and the renminbi, the Korean won and Taiwan dollar could be next as China pushes on towards full internationalisation of its currency.
This month saw the passing of an important milestone in the process of renminbi internationalisation: the currency is being allowed to trade directly against the Japanese yen.
Although Sino-Japanese political relations are not progressing, the economic policies between the two countries are extremely pragmatic. Direct currency trading between the world’s second- and third-largest economies is strategically significant and lays a strong foundation for Sino-Japanese trade and financial co-operation.
Looking back at the process of renminbi internationalisation, there have been few events such as this “great leap forward”. So, after the yen, which currency will be next to exchange directly with the renminbi? China was Japan’s largest trading partner in 2011, while Japan was China’s fourth largest. The top spot is held by the European Union and whether the euro can trade directly with the renminbi is of great significance, but the prospects are not promising.
First, the euro is facing many challenges, the European debt crisis led to instability and there are predictions that the currency may disintegrate. In addition, negotiations between China and the euro-zone governments could be relatively complex; therefore, it would take sometime before the euro and renminbi could be directly converted.
As for the Hong Kong dollar, as early as 2009, the city was given approval to carry out renminbi cross-border trade settlements with Shanghai and four designated cities in Guangdong province, and by 2011, Hong Kong’s total renminbi trade settlements amounted to 1.9 trillion yuan (HK$2.34 trillion).
Hong Kong has more than 500 billion renminbi in deposits, accounting for about 10 per cent of all local bank deposits, and making it the third-largest currency held after Hong Kong and US dollars. Hong Kong’s market has the largest stock of offshore renminbi, the most extensive renminbi-related business structure, and has been the most active in developing innovative renminbi products.
The direct trading of the currency against the yen will promote further internationalisation of the renminbi, and it will also enhance the status of Hong Kong as an offshore renminbi centre. Economist Ba Shusong said that one important strategy for internationalising the renminbi involved progressing from “peripheral to regional to global”. In August and November 2010, allowing the direct trading of the renminbi against the Malaysian ringgit and the Russian rouble reflected the initial “peripheral” step in this strategy.
Whether it is from a desire to increase trade, or to continue with the “peripheral” strategy, the Korean won and Taiwan dollar are likely to become the next currencies targeted to trade directly with the renminbi. I recently attended a seminar given by former South Korean Prime Minister Chung Un-chan, who is also a renowned economist, and discussed direct trading of the renminbi and the won with him. Dr Chung said the renminbi could not be freely exchanged with the won and he estimated such a step would take a few years. He believed crossborder trade between China and South Korea should be settled through local currencies, progressing from small to large amounts, and that the process of direct currency conversion should be gradual.
Since 2005, China has been South Korea’s largest trading partner and has a significant trade deficit. The Bilateral Currency Swap Agreement signed between the People’s Bank of China and the Bank of Korea totals nearly 360 billion yuan, second only in size to Hong Kong. Therefore, there is reason to believe the renminbi and the won will trade directly sometime soon. It seems that the Taiwan dollar and the renminbi are on the verge of direct trading. According to one report, Taiwan’s government has already agreed to allow direct conversion with the renminbi and negotiations related to the clearance and settlement mechanism for cross-strait currency are under way. If this proves to be true, the long-awaited wishes of the Taiwanese business community may soon come true.
Under the “peripheral strategy”, direct trading between the renminbi and individual currencies can only meet the demand for trade settlement gradually. The renminbi still has a way to go to become a regional currency in East Asia and even in Asia. It will be a long process, possibly requiring decades of effort before it achieves free global exchange and circulation and becomes a major reserve currency.
G. Bin Zhao is Executive Editor at China’s Economy & Policy