25 May 2015
Headwind? Tailwind!Examining the Direct Impacts of the RMB’s Possible Inclusion into the SDR
The International Monetary Fund (IMF) unofficially begins its quintuple review of the SDR basket in recent days, with official result to be expected in October, and implementation at the beginning of 2016. Taking into account of the progress made by the RMB in the past several years including the RMB’s use in cross border trade settlement, investment and reserve assets, its approaching the freely usable standard argues strongly for its inclusion into the SDR this time around. The market is generally optimistic about odds of this outcome because it is a matter of when not if. If successful, it will have direct implications to the RMB internationalization in terms of its policy and market drivers.
I. The RMB meets the basic requirements
IMF generally conducts review of its SDR currencies basket every five years. During the last review in 2010, the RMB was the only candidate being seriously considered for inclusion. China already met IMF’s first criterion at that time, with its exports of goods and services during the five-year period ending 12 months before the effective date of the revision having the largest value. In 2010, China was the world’s third largest exporter of goods and services. Since then, China continues to make headways. Its foreign trade totaled RMB25.42 trillion in 2012, second in the world, and RMB25.83 trillion in 2013, surpassing that of the US to lead the world. In 2014, China retained the crown with foreign trade totaling RMB26.43 trillion. In 2014, China’s GDP reached USD10.38 trillion, second only to the US. In the meantime, the foreign direct investment (FDI) China attracts is also second only to the US, and China’s outbound direct investment (ODI) is right behind Japan and the US amongst G20. The dollar amount has been basically at par with that of FDI. China’s real economy, especially trade and investment growth, sets a solid foundation for the RMB to qualify for the SDR. It is not unreasonable to claim that the RMB internationalization is lagging behind China’s economic clout.
The second criterion is that it has to be determined by the IMF under Article XXX (f) to be a freely usable (FU) currency, which concerns the actual international use and trading of currencies. To help make the decision, the IMF refers to four quantitative indicators: the Currency Composition of Official Foreign Exchange Reserves (COFER) complied by the IMF itself, the international banking liabilities compiled by the Bank of International Settlements (BIS), the international debt securities statistics also compiled by BIS, and the global forex markets turnovers captured by BIS’ Triennial Central Bank Survey.
Overall, the RMB’s strength lies in offshore deposits and forex trading. In 2014, offshore RMB deposits amounted to RMB2.8 trillion or USD440 billion, making it the fifth largest currency right behind the four SDR currencies. And based on the global forex markets turnovers captured by BIS’ Triennial Central Bank Survey, the RMB is ranked the ninth with a market share of 2.2/200. At the end of 2014, it was the sixth most actively traded currency.
The RMB’s weakness is in central banks holdings and the RMB international bond market. On one hand, COFER has not been able to single out the RMB in its statistics. It was included in other currencies that accounted for 3.1% of the total in 4Q14. On the other hand, the offshore RMB bond market’s size of RMB480 billion at the end of 2014 results in a small share of 0.4% of the total.
It is worth noticing that of these four indicators, three are linked to the offshore market, showcasing the importance of the offshore RMB market’s development to its SDR ambition. Moreover, those indicators are not meant to be used mechanically. IMF also emphasizes that the Executive Board’s judgment is necessary. Combined with Christine Lagarde’s latest comment that it is a matter of when, not if, the RMB makes it into the SDR, and the RMB internationalization’s progress in the past several years, the RMB stands a fairly good chance to pass IMF’s internal assessment of being freely usable in this year’s review.
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