I am very pleased to be here today. I congratulate the International Monetary Institute of Renmin University for having brought out a further edition of the Renminbi Internationalisation Report. OMFIF has been pleased to partner with the IMI in disseminating this report in past years and we look forward to doing so again in future.
One of the themes in this year’s report has been, regarding the international use of the Chinese currency, the increasing importance of financial settlements as opposed to the use of the renminbi in visible goods trade.
This is an area I shall dwell on in my presentation. We should be reminded, too, that some of US President Donald Trump’s actions in the trade and investment sphere, while undoubtedly risky for the world economy, may end up helping the renminbi on the world stage. Earlier this week in Singapore I heard Jack Lew, the former US Treasury secretary, saying that the US action abrogating the Iranian nuclear accord produced as one important side effect the visit of the Iranian president to Beijing for a discussion about, among other things, whether the renminbi could be used instead of the dollar in pricing oil.
We see here, not for the first time in Mr Trump’s actions, examples of the Law of Unintended Consequences. Indeed, I sometimes wonder whether Mr Trump is following not so much an ‘America first’ but more a ‘China first’ policy. We heard earlier today, from Qi Bin in his talk on investment, of the English writer Charles Dickens, the author of the much-quoted epithet, ‘Best of times, worst of times.’
There is a parallel with Trump, who said before his visit to the UK that Britain’s suggested deal over leaving the European Union would kill any idea of a separate trade accord with the US. Only around 24 hours later, the president reversed his message by saying that a trade deal between Britain and the US was ‘entirely possible’. Like Dickens, who wrote many of his novels in instalments in railway wagons and stagecoaches, Mr Trump makes it up as he goes along.
I would like to summarise the three main messages of my speech, on which I will then elaborate in the time remaining. First, Mr Trump’s actions are likely to strengthen the relationship between China and Europe. Second, in line with some of the findings in the Internalisation Report, I believe that China will become progressively more important as an international hub for both capital exports and capital imports, consistent with the renminbi taking on a more important role in world finance, with an increase in renminbi products for asset and wealth management and capital raising – what I call the ‘renminbi-isation’ of world capital markets. Third, China has sensibly been guided by self-interest in following a strategy of shifting its net foreign assets towards holdings of equities and equity-like instruments and away from other countries’ government debt.
Here China has shown itself far more adept in recent years in managing the stewardship of foreign assets than Germany, which took over the position this year (from China, now No. 3) as the world’s No. 2 net creditor country (with Japan remaining No. 1).
The figures in my talk are all taken from the OMFIF publication Global Public Investor 2018, published a few weeks ago, and now available free of charge on our website. Anyone who would like a copy should please see my colleague Adam Cotter for advice on how to get hold of an online version. The book records trends in asset management behaviour over the last year by a selection of 750 listed sovereign investors around the world, the bedrock of the analysis that we have now produced for the fifth year in a row.
One important finding is the widening of the gap between the net creditors’ and net debtors’ international investment positions – registering the disparities between all the countries that have built up debt among themselves over the years – to $32.7tn last year, the largest on record. The biggest debtor and creditor positions are recorded in Europe, showing how this region has become home to the largest macroeconomic imbalances in the world. This does not portend well for economic and monetary union in
Three European countries – Germany, Switzerland and Norway – markedly increased their net foreign assets. Germany leapfrogged ahead of China with net foreign assets rising to $2.2tn from $1.8tn.
US net foreign liabilities declined to $7.8tn from $8.3tn, but the US remains by far the world’s leading debtor. The reason why the US has built up this large foreign debt is because the rest of the world trusts it with their money. There is a message here for China. As China seeks to expand the use of the renminbi as a reserve asset, the Chinese authorities will have to try to build the same depth, and the same level of trust and confidence, with regard to the Chinese capital markets, as the Americans have succeeded in doing – despite all their weaknesses and setbacks in the macroeconomic picture – over the past 70 years. That is the yardstick against which China’s prowess will be judged.
One way to assess China’s role in the international financial system is to examine the country’s total international assets and liabilities, demonstrating the ‘hub’ function I referred to earlier. The figure has risen to $12tn in 2017 from $1.6tn in 2004, showing the growth in China’s engagement with the rest of the world.
Everyone is aware of the increase in China’s official reserves, from $600bn in 2004 to a peak $3.9tn in 2014, before declining to $3.1tn in 2016 and since then recovering to $3.2tn.
The People’s Bank of China took a strategic decision a few years ago to economise on reserves, echoing a decision by the Bundesbank (at a much lower level of reserves) in the late 1990s after Germany entered monetary union. At the same time China as a deliberate act of policy has shifted more of its foreign assets into portfolio investment and direct foreign investment in equities, lowering its massive holdings of US treasury bills that in effect added up to a subsidy to the American taxpayer.
Arithmetically, nearly half of Germany’s net foreign assets are made up of the Bundesbank’s advances to weaker countries in economic and monetary union, via the European Central Bank, now above €975bn. These so-called Target-2 balances provide effectively an unlimited interest-free overdraft system for debtor countries, without any redemption schedule and not subject to any economic conditionality. These Target-2 balances, inflated by the effects of the ECB’s three-year-old quantitative easing programme, are now well above crisis levels of 2012.
They form the bedrock of Germany’s overall net foreign assets that, according to Bundesbank figures, totalled €1.93tn at end-2017 against €1.7tn at end-2016. China in the last few years, correcting previous faulty policies, has chosen a different path. Financial historians may puzzle in future over which of the world’s No. 2 and No.3 creditor nations have deployed its foreign reserves more wisely during the years since the financial crisis.
David Marsh is Chairman of OMFIF.