Beijing’s plan to internationalise the yuan remains on track

The Chinese yuan seems to have stalled in its internationalisation, as overseas investors are reluctant to increase yuan holdings amid concerns of capital controls and currency interventions. However, analysts still expect China to stick to its yuan i internationalisation plan and gradually open up the onshore asset market, as the country looks likely to uphold a free trade policy even as protectionist forces are on the rise. Global foreign exchange reserves held in yuanreached 1.1 per cent of total reserves by the end of 2016, way behind its major currency peers, according to a report by the International Monetary Fund last week. “Indeed, its [the yuan’s] 1.1 per cent share was more or less the same with the preliminary survey in 2015, indicating mild inflow into yuan assets as a reserve asset after the admission of the yuan into the Special Drawing Right basket,” said Ken Cheung, Asian forex strategist for Mizuho Bank. A previous ad-hoc survey by the IMF showed 130 countries had held a total of US$74 billion worth of yuan assets by the end of 2014, 1.1 per cent of their total official foreign assets. The current yuan share is significantly lower than its 10.92 per cent share in the SDR basket and near 13 per cent share in global trade in 2015, Cheung said. It’s also way behind its peers. As the latest IMF report showed, US dollar assets represented 64 per cent of global forex reserves by the end of 2016, while the euro accounted for 19.7 per cent, the British pound 4.4 per cent, and the Japanese yen 4.2 per cent. Nonetheless, the latest result is “hardly surprising”, given that China has faced substantial capital outflow pressure since its exchange rate reform in August 2015, Cheung said. Currently, China’s tight capital control measures remain an important concern for international investors who conduct onshore yuan investment, as they worry about the difficulties in repatriating the capital from within the country. “This explains the [policymakers’] failure to improve the yuan function of investment and reserves despite the official yuan inclusion in the SDR basket last year,” he said. Steven Innes, a senior trader at Oanda Asia Pacific, also said China’s previous attempts to curb the yuan’s depreciation had caused a funding squeeze in offshore yuan markets and is likely viewed as a “blight” toward China’s ultimate goal for yuan internationalisation. “All too frequent interventions will sour international investor sentiment,” he said, adding that tightening capital controls have also kept investors away from conducting business in yuan. However, Cheung still expect China to stick with its internationalisation plan. “With rising protectionism, China seeks to uphold globalisation and the free-trade policy, and in doing so, China could play a larger role on international affairs,” he said. Marc Chandler, global head of currency strategy for Brown Brothers Harriman, said that as the summit between Chinese President Xi Jinping and US President Donald Trump nears, trade tensions are going to be a key focus. Last month, Chinese Premier Li Keqiang said in the annual government work report that authorities will “maintain the RMB’s stable position in the global economy system” in 2017. That marked a change in the language he used to describe the yuan in the previous years, when he pledged to “keep the yuan stable at an appropriate and balanced level”. The subtle change has sparked speculation that policymakers may be willing to embrace more yuan volatility in 2017 in order to facilitate the goal of currency internationalisation. Yi Gang, Deputy Governor of the People’s Bank of China, also stressed in a statement this week that yuan internationalisation is a medium-to-long term strategy. “Indeed, the latest PBOC’s statement echoed the comment that ‘maintaining the RMB position in the global monetary system’ in the Government Work Report,” Cheung said. “In this circumstance, we expect that China will manage to keep the yuan stable in the near term and consider easing its capital outflow control measures later this year.” China’s policymakers have already tried to attract capital inflows. Premier Li said in his annual work report last month that policymakers will allow overseas funds to buy onshore bonds in Hong Kong in 2017 through a Bond Connect scheme. “Details on the mechanics, including implementation time frame, were not immediately available, but the general thrust is consistent with other measures to boost market accessibility and encourage inflows,” said Chandler. Analysts expect China to open up the onshore asset market gradually and the yuan to depreciate at a modest pace in 2017. “We remain of the view that the offshore yuan will undergo a modest depreciation this year, and the potential capital inflow would support the offshore yuan further when investors start to recognise the functions of investment and reserves in yuan assets in the longer term,” Cheung said.