On October 1, the Chinese renminbi officially becomes the fifth international reserve currency. Until recently, Washington played geopolitics to defer the renminbi’s internationalisation. But what about Wall Street?
On October 1, 2016, the Chinese renminbi (RMB) will officially join the International Monetary Fund’s (IMF) international reserve assets; that is, the SDR (Special Drawing Rights) basket. From the perspective of the IMF, this is a ready affirmation of China’s success in opening up its markets. The inclusion of the renminbi into the ranks of the most important international currencies codifies the acceleration of bilateral and multilateral RMB transactions worldwide.
As almost a year has passed since the IMF’s decision, the US has finally, though quietly and belatedly, begun to participate in the RMB internationalisation. Nevertheless, as the RMB’s expansion is rapidly accelerating, Wall Street’s moves are still too little too late.
Three Waves of Capital Inflows
After October 1, RMB assets are likely to benefit from three consequent waves of capital inflows. The first wave involved the very inclusion of the RMB among the IMF international reserve assets. That caused a re-weighting of the SDR basket, which is currently valued at $285 billion. Before the RMB inclusion, the basket was dominated by the US dollar (41.9%), followed by the euro (37.4%), UK pound (8.1%) and yen (8.3%). As the RMB was included in the SDR assets, the shares were re-weighted.
Today, the SDR assets remain dominated by the weights of the US dollar (41.7%), the euro (30.9%) and Chinese renminbi (10.9%), followed by the UK pound (8.1%) and Japanese yen (9 percent). The weight of the RMB translates to about $31 billion into the RMB assets starting in October, probably gradually over half a decade.
As long as China’s economic growth prevails, even as it decelerates, and financial reforms continue, the RMB inclusion is likely to prompt another wave of capital inflows by central banks, reserve managers and sovereign wealth funds. Today, the allocated part of the global foreign exchange reserves – which the IMF calls the Currency Composition of Official Foreign Exchange Reserves, or COFER – amounts to $7.2 trillion. The US dollar still accounts for nearly two-thirds of the total, against a fifth by the euro, while the pound and the yen are less than 5% each.
Now, assuming that China’s current share of global reserves is about 1 percent, the IMF’s decision could cause a significant capital inflow (5%) – about the weight of the yen or pound – into the RMB assets, which would translate to some $360 billion by 2020. If, on the other hand, the RMB’s COFER share would reflect its SDR weight (10.9%), the inflow of capital could more than double to over $780 billion.
A third capital inflow is likely to ensue as private institutional and individual investors follow in the footprints of the IMF and public investors. If these allocations rise to just 1 percent, they could unleash about $200 billion into the RMB assets by 2020. But again, if these allocations would reflect the renminbi’s SDR weight, capital inflows could double, triple or increase by a magnitude.
About the Author
Dr. Dan Steinbock is Guest Fellow of Shanghai Institutes for International Studies (SIIS). This commentary is based on his project on “China and the multipolar world economy” at SIIS, a leading global think-tank in China. For more about SIIS and Dr. Steinbock, see http://en.siis.org.cn/ and http://www.differencegroup.net/