China Promoting International Use of RMB
While it is Making Some Progress, Further Financial Reforms are Required Before the Currency is Ready for Prime Time, According to Brookings Report
China is taking several steps to promote the international use of its currency, the renminbi, according to a report prepared for the U.S.-China Economic and Security Review Commission and published by Brookings Institution.
China is seeking to expand the international use of its currency by permitting the settlement of trade transactions with the RMB; allowing issuance of RMB-denominated bonds in Hong Kong; permitting some banks to offer offshore RMB accounts; setting up RMB clearing centers, including in Frankfurt, Paris, and London; and creating a payment system for easier settlement of cross-border RMB transactions.
In 2015, trade settlement in renminbi totaled $1.7 trillion, about 25 percent of China’s annual trade
Volume, according to the report, which was authored by Eswar Prasad.
Besides the size of China’s economy—it is the world’s second largest after the U.S.—the RMB’s prospects as a reserve currency will be influenced, according to the report by criteria such as China’s macroeconomic policies, particularly its commitment to low inflation; the currency’s ease of trade in global financial markets; market-determined exchange rates; and development of the country’s financial markets.
The report concludes that “China’s capital account is likely to become largely open within the next three to five years, with few restrictions on capital inflows and outflows.” As a result, “The RMB will play an increasingly important role in global trade and finance, with the currency being used more widely to denominate and settle cross-border transactions.”
The report also found the China’s current leadership has exhibited a commitment to reforming the financial sector. If these policies are implemented they will “sets the RMB on a clear course to become a significant reserve currency.” But the underdeveloped financial markets in China represent a “major constraint on the RMB’s rising prominence in international finance.”
The implications for the U.S. include greater foreign direct investment by China in the U.S. with less purchases of U.S. Treasury securities. Further, “The RMB’s growing prominence as an international currency will, over time, diminish the dollar’s role as a unit of account (for denominating international trade transactions) and a medium of exchange (for settling cross-border financial transactions).”