Offshore yuan market gets into its stride
Donna Kwok says the strategy of making China's currency truly international is on schedule
The offshore renminbi market in Hong Kong has just turned two years old and the currency has made extraordinary strides.
Since it took its first toddler steps in July 2010, the daily turnover in the offshore renminbi foreign exchange market has risen from essentially nothing to US$4billion, and one-tenth of China's trade is now settled in its home currency, up from 2per cent two years ago. As offshore renminbi liquidity continues to grow, it is expected to account for around 30per cent of Hong Kong's total deposits by 2015, compared with today's 9per cent.
The huge success of the offshore renminbi brings its own challenges. For example, what's the best way to measure the amount of the currency in circulation?
Hong Kong's outstanding renminbi deposit base has often been used as the best indicator of overall offshore renminbi liquidity and, therefore, the development of the offshore market in general. It's an important yardstick because without sufficient liquidity, transactions in the offshore renminbi market would dwindle.
Simply put, the bigger the pool of offshore renminbi, the more viable the market becomes for institutional investors. But while the renminbi deposit base worked before as a useful guide for tracking offshore renminbi activity - when the product platform was still in its infancy - a wider definition of renminbi liquidity is now needed. The market is getting deeper and broader, so liquid fund flows that leave Hong Kong's offshore renminbi deposit base, but not the market, should also be included.
If funds invested in higher-yielding renminbi certificates of deposits are taken into account (almost 140billion yuan - about HK$170billion - at the end of June) along with pools of offshore renminbi deposits in London
(35billion yuan) and Singapore (60billion yuan), total offshore liquidity is at an all-time high of almost 790billion yuan.
In fact, offshore renminbi activity has flourished during the past year without a comparable expansion in Hong Kong's deposit base, which has actually fallen 11per cent since November. This surprised some observers as in its first year of existence, Hong Kong's offshore renminbi deposit base had leapt from around 90billion yuan to over 550billion yuan. (The current total is around 558billion yuan.)
While some investors may be put off by expectations of slower renminbi appreciation, healthy renminbi trade settlement and a wider range of financial products suggest that the offshore renminbi is becoming ever more popular globally as a trading and investment currency. Sufficient liquidity has probably accumulated for the market to withstand temporary dips. It's all part of the broader process of renminbi internationalisation.
The offshore renminbi is also playing an increasingly important role in the world of bonds. Almost 60per cent of the China Development Bank's recent 2.5billion yuan dim sum bond offer was taken up by central banks from Africa, the Middle East and Europe. Not only are central banks seeking to diversify their currency reserves away from the dollar and euro, but they are also seeking a better return. The dim sum bond market is catching up with its local-currency-denominated bond market, increasing from less than 3per cent in July 2010 to over 28per cent by March.
But despite this rapid growth, we didn't include funds invested in dim sum bonds when measuring overall offshore renminbi liquidity. Dim sum bonds are issued for a number of reasons - raising renminbi funding for swapping to other currencies; remitting proceeds back to China; settling offshore renminbi trade and investment transactions; or establishing a symbolic renminbi bond presence for brand purposes. But a portion of the proceeds are sometimes deposited in the Hong Kong renminbi deposit base before they are used for their final objective. This opens up the possibility of double counting. Without sufficient transparency to gauge how much of these renminbi proceeds are deposited in the banking system and for how long, we prefer to exclude dim sum bonds from our liquidity calculations for now.
The internationalisation of the renminbi is expected to continue to pick up pace, alongside the ongoing liberalisation of China's exchange rate, capital account and domestic financial markets.
The rapid succession of regulatory moves since 2010 by both mainland authorities and the Hong Kong Monetary Authority underscore our confidence in China's determination to see this internationalisation process through to fruition, irrespective of global turbulence.
While the offshore renminbi has a long way to go before it matches the stature or everyday usability of the Hong Kong or US dollar, it is catching up, fast. As the offshore renminbi market continues to spread its wings, an increasing number of markets outside Hong Kong can be expected to join this important development, tapping into offshore renminbi asset returns.
Donna Kwok is HSBC's Greater China economist