Judging by the rhetoric of some large emerging markets such as China, the dollar’s world reserve currency status should be challenged. However, as the latest data from the Bank for International Settlements show, this is far from happening. If Beijing wishes to accelerate the renminbi’s internationalisation, it must revise its capital market strategy.
The BIS recently published the end-2017 cross-border claims and liabilities of Chinese resident banks as well as figures on the net issues and outstanding amounts of debt issued by Chinese residents and nationals on international markets. The data make clear that the dollar remains the major currency for cross-border lending and borrowing, as well as the most common currency for Chinese international bond issues. At the same time, lending in renminbi has declined, deposits in renminbi have increased slightly and issuing activity in renminbi has remained small.
The Belt and Road initiative, Beijing’s prize cross-border infrastructure plan, creates opportunities for Chinese banks to lend in renminbi to project recipient countries. Borrowing by issuing debt securities in one’s own currency has traditionally been how a country achieves reserve status, as happened with sterling and the dollar. The Belt and Road gives China’s a way to advance the internationalisation of its currency by lending renminbi that recipients then spend on Chinese exports or investment and offering high quality debt securities denominated in renminbi.
Beijing has paid undue attention to the threat of capital outflows from China. While outflows were a worrying trend for China until 2016, this has since reversed and capital is returning to the country through banks and bond markets. Inflows, together with an appreciating renminbi, have boosted national pride, which proved especially beneficial in the run up to last October’s Communist party congress. However, while restricting capital outflows may be suitable for small countries, it does not profit those that want their currency to reach global reserve status. As Japan showed in the 1980s, a timid approach leads to modest results.
What is required of a future reserve currency provider is to massively export its currency. This applies even more so to a current account surplus country, such as 1980s Japan and modern China. As the US has shown since the end of the second world war, the main instruments for currency internationalisation are boosting cross-border lending by banks and by massively issuing debt both in the national currency. These methods, together with outward foreign direct investment, increase the use and holdings of the national currency by foreign project and trade partners as well as investors. While China’s domestic bond market is the third-largest in the world, access by foreigners is still restricted to the qualified foreign institutional investor programme and nascent Bond Connect, closely related to the China-Hong Kong stock connects that aim to provide greater access to shares listed on the mainland.
Given China’s economic clout and the markets’ interest in Chinese investments, now is the best time for Beijing to apply a revised twin capital markets strategy. Missing this moment would perpetuate the dollar’s global reserve status and impede the renminbi’s development.
Herbert Poenisch is a Member of the International Committee of the International Monetary Institute at Renmin University of China, and former Senior Economist at the Bank for International Settlements.