Big challenges ahead for yuan to go global
While the currency's role in trade is likely to grow, convertibility issue will limit its use for investment or as a reserve unit
Wind the clock back five years and just over a dozen transactions marked the yuan's first tentative steps on the path to becoming an international currency. Now it has become the seventh-most used payment currency, with more than 4 trillion yuan (HK$4.9 trillion) in trade settlements last year.
For Beijing policymakers, that is only the start, having signalled their ambitions for the currency to compete with the US dollar for trade settlement and investment and, eventually, become a reserve currency for central banks.
The currency began its march on June 29, 2009, when the central banks of the mainland and Hong Kong signed a deal to allow lenders in the city to conduct cross-border yuan settlement. Just 15 transactions were made on the scheme's July 6 debut that year, owing to its initial restriction to just 365 firms in five cities.
Beijing eased the rules in several stages. By March 2012, cross-border yuan trade was opened up to all firms across the country. In the first four months of this year, Hong Kong conducted 1.95 trillion yuan of cross-border trade settlement, almost half of last year's 3.84 trillion yuan, the Hong Kong Monetary Authority said.
The yuan has become the second-most used currency in Hong Kong for settling trade between mainland Chinese and foreign companies after the dollar, according to payment firm Swift.
Against the backdrop of a boom in transactions, bankers expect continued growth in the yuan's role in trade settlement, but industry players believe the currency has a long way to go before it can challenge the dollar as an investment or reserve currency, given that it is not yet fully convertible.
Tan Shiming, a global yuan product manager for Citi, said many multinational clients also used the yuan to settle trade. Such settlements account for about 15 per cent of the trade in mainland China, with more than 80 per cent of this conducted by banks in Hong Kong.
"Cross-border settlement in yuan is expanding in scale, progressing in simplicity and penetrating in more and more companies worldwide," Tan said.
HSBC Asia-Pacific chief executive Peter Wong Tung-shun expects yuan trade to continue to grow.
"We estimate that one-third of China's trade will be settled in yuan by 2015, and that within three to five years at least half of China's trade flows with emerging markets could be settled in yuan. This means nearly US$2 trillion worth of trade flows could be settled in yuan annually, making it one of the top three global trading currencies," he said.
Wong's prediction is on the bullish side. The yuan secured seventh place among the leading payment currencies in the world in March, jumping from 13th in January 2013, according to Swift.
However, for the currency to break into the top three would be a tall order. The yuan now represents 1.62 per cent of global payments, compared with 40.19 per cent for the dollar, 31.78 per cent for the euro and 9.24 per cent for the British pound.
But Wong remains optimistic. He believes the yuan's internationalisation will mark "a historic shift and a huge opportunity for Hong Kong".
"Our close economic and business links with China underpin the breadth and depth of the offshore yuan market in Hong Kong," he said.
The city's role as the leading offshore hub for yuan business is coming under pressure from the likes of Singapore, London and Frankfurt, which have been steadily developing their yuan trade business over the past two years.
Wong said that while Hong Kong's share of trade settlement in yuan would inevitably decrease, it was still likely to see a rise in the volume of settlement.
"When the size of the pie increases, so do the sizes of the shares. Some yuan trade will inevitably move to places like Singapore, London and North America. However, the cultural and physical access to the world's most dynamic major economy that Hong Kong is having gives the city an enormous advantage," he said.
Michael Vrontamitis, Standard Chartered's regional head of product management for Greater China and Northeast Asia, said his bank forecast 28 per cent of China trade would be denominated in yuan by 2020.
"This gives a lot of room for growth, especially given that the faster liberalisation of China will encourage further the use of yuan globally," he said, adding that many small and medium-sized companies on the mainland and those in the commodities sector were still in the early stages of using the yuan to settle trade.
The rising use of the yuan has in turn raised doubts over the future of the Hong Kong dollar.
Joseph Yam Chi-kwong, the former chief executive of the HKMA, writes in a new book that it is inevitable that the Hong Kong dollar will pale in significance in the long term, with the yuan bound to play a bigger role.
"It is unrealistic to expect a significant proportion of the international financial activities between the [future] largest economy in the world, now with 1.3 billion people, and the rest of the world to be conducted using the currency of merely 7 million people," Yam, now an adviser to the People's Bank of China, writes in the book, which was launched last week.
However, an HKMA spokesman played down any concerns for a diminished Hong Kong dollar.
"Although yuan deposits have grown by 16 times since 2008, reaching 959.9 billion yuan at the end of April this year and accounting for about 13 per cent of the deposits in the Hong Kong banking system, Hong Kong dollar deposits also rose significantly to HK$4.55 trillion and accounted for about half of the total, which is an average ratio for the past 20 or 30 years," she said.
Despite the practice of many mainlanders to use the yuan on visits to Hong Kong, this had not reduced the use of Hong Kong dollar banknotes, the spokesman said. The currency's circulation grew to HK$329.3 billion at the end of 2013, representing 15.5 per cent of gross domestic product, from HK$108 billion in 2001, or 8 per cent of GDP.
"This suggests that the growing use of the yuan is not at the expense of the Hong Kong dollar," the HKMA spokesman said.
Andrew Fung Hau-chung, an executive director of Hang Seng Bank, also said the growth in use of the yuan for trade and investment replaced that of other currencies rather than the Hong Kong dollar. "The weighting of the Hong Kong dollar in M2 has always been 50 to 60 per cent," he said, referring to the broad measure of money supply. "I am not worried at this stage."
The dramatic progress in the use of the yuan for cross-border trade settlement has spurred Beijing to advance its goals for promoting the yuan as an investment currency.
Under the so-called stock through-train scheme, due to begin in October, mainland and Hong Kong investors are required to use the yuan for cross-border trading of stocks in Shanghai and Hong Kong.
However, Cheung Wah-fung, a legislator for the financial services sector, said the scheme would not help in the push for the yuan to become an investment currency.
"The key challenges are the fact that the yuan is not yet fully convertible and that Beijing still restricts Hong Kong residents to exchange up to 20,000 yuan a day. These limitations discourage investors from using the yuan for investment or as a reserve currency," he said.