The international community has been paying much attention to the possible inclusion of the renminbi, or the yuan, in the Special Drawing Rights basket of reserve currencies by the International Monetary Fund. IMF Managing Director Christine Lagarde said during her recent visit to China that progress in the renminbi internationalization in the past few years has basically brought the yuan to the criterion of a freely usable currency, and the inclusion of the yuan in the SDR basket is not “a question of if” but “a question of when”. On May 29, the G7 leaders reached a consensus that the yuan should be part of the IMF’s basket of reference currencies, but technical reviews should be completed first.
During the IMF technical reviews, the renminbi will have to meet two conditions before it could be included. The first: whether or not the value of the exports of goods and services in the five years prior to the reviews is one of the biggest in the world. The SDR basket of currencies now includes the dollar, euro, pound sterling and yen; this means that China’s export value of goods and services should be higher at least than that of Britain or Japan.
China’s foreign trade amounted to 25.42 trillion yuan ($4.17 trillion) in 2012, ranking second in the world; in 2013, total foreign trade was valued at 25.83 trillion yuan, overtaking the United States to become the biggest in the world; and in 2014, China’s foreign trade value increased further to 26.43 trillion yuan, still ranking the largest in the world. The five-year average value of China’s foreign trade always ranks among the top. That is to say, China can now basically satisfy this criterion of the IMF for the technical reviews.
The second important condition is that the renminbi must meet the criterion of a freely usable currency under IMF Article XXX(f), that is, widely used to make payments for international transactions and widely traded in the principal foreign exchange markets. This criterion could be divided into four specific indicators: The weight in the composition of the official IMF foreign exchange reserve currencies; the Bank for International Settlements statistics on international banking liabilities and cross-border deposits; the BIS statistics on global bond markets; and the BIS statistics on global foreign exchange market transactions. During the 2010 technical reviews, the renminbi failed to be accepted due to its weakness in the first and fourth criteria.
At present, the renminbi has shown its strength in cross-border deposits and foreign exchange market transactions. At the end of 2014, the amount of offshore renminbi deposits stood at about 2.8 trillion yuan, next only to the four SDR reserve currencies. Also at the end of 2014, the renminbi fared very well in the foreign exchange market transactions, ranking sixth among all currencies.
But the renminbi still shows its weakness in terms of the holdings as foreign exchange reserves and the size in the international bond markets. According to statistics on the Canadian dollar and Australian dollar conducted separately by the IMF effective from 2013 under the first criterion, the proportion in the official foreign exchange reserves among the global currencies was about 1.5%, respectively. Judging from this level, the proportion of the renminbi holdings by central banks around the world as their foreign exchange reserves is probably lower than that ratio. But consideringthat more than 40 central banks or monetary authorities around the world have included or plan to include the renminbi as a currency of their foreign exchange reserves, and that they can buy renminbi assets through such channels as the offshore market, it is estimated that the ratio of the renminbi is approaching the 1.5% level. As for the fourth criterion, the balance of the offshore renminbi bond markets at the end of 2014 was about 480 billion yuan, accounting for 0.4% of the international bond markets, and this proportion was still fairly low.
The two criteria all had, to a great extent, a bearing on the failure for the inclusion of the renminbi into the SDR basket. If the renminbi could be included in the SDR basket of reserve currencies, it would mean that the IMF endorses the renminbi as an international currency, and then it would be significant changes in the two criteria for the renminbi and would be fairly easy for the renminbi to meet the IMF technical standards. In this sense, the probability for the renminbi to pass the technical reviews for its inclusion in the SDR basket would be very high.
Even if the renminbi passes the IMF technical reviews for its SDR inclusion, the stance of the US government and attitude of the US Congress on renminbi’s inclusion in the SDR basket will directly affect the final decision on its inclusion. The US government has recently stated that it would agree to include the renminbi in the SDR basket if it would pass the IMF technical reviews. The attitude of the US Congress, however, is still unknown. If the US Congress unilaterally opposes its inclusion, it would be up to the game outcome between the Chinese government and the US Congress to solve the technical hurdle for renminbi inclusion in the SDR basket.
If the renminbi could be included in the SDR basket of currencies, it will not only be a recognition of China’s ever-rising status in the global economy and financial market, but will also mean that more countries will use the renminbi as one of their reserve currencies, thus further speeding up the renminbi international process. The inclusion will be of both symbolic and substantive significance. This is what the Chinese government wants to achieve.
More importantly, if the renminbi is accepted as a currency in the SDR basket under the current circumstances, it will mean an official IMF endorsement of the renminbi as an international currency, even if the renminbi has yet to achieve the goal of free convertibility and the capital account is yet to open completely. This will, on the one hand, clear the technical hurdles for central banks across the world to hold the renminbi as an international reserve currency, and help elevate the status of the renminbi on the international markets in terms of cross-border transactions and investment settlements, and on the other hand, it will help lower the financing costs for Chinese enterprises on the international markets and promote reforms of China’s financial market. Furthermore, it will also help mitigate potentially huge risks deriving from the call for inclusion of the renminbi into the SDR currency basket only after completely free convertibility.
According to the 1994 plan, the goals of opening the capital account and achieving the renminbi free convertibility should have been completed in 1997, but due to the Asian financial crisis in 1997, the Chinese government changed and deferred the plan. Today, even 18 years after the financial crisis, the two tasks are still progressing very slowly. The fundamental reason for the slow progress is: the government finds it unpredictable about the degree of external impacts and the consequences from the opening of the capital account and the renminbi free convertibility. Under the current situation, if the renminbi is included in the SDR basket of currencies, it will mean an endorsement of the renminbi as an international reserve currency, and at the same time, the Chinese government will have the power and capacity to steer and manage the renminbi exchange rate. This is really what the Chinese government has been hoping for.