Comments on Settlement Infrastructure for Local Currency Internationalization

by Changyong Rhee and Lea Sumulong Paper

R. Sean Craig

IMF Resident Representative in Hong Kong

HKIMR Conference on Currency Internationalization

Hong Kong, December 11th, 2012

If you build a state-of-the-art RMB settlement system; will they come?

What role does the settlement system play in RMB Internationalization?

RMB Internationalization in Hong Kong depends on Mainland China’s capital account opening

• Partial opening of the capital account supported development of offshore RMB products and markets

• Supply of offshore RMB liquidity (i.e. RMB deposits) created by outflows from mainland (i.e. trade settlement)

• Usage of offshore RMB boosted by opening up of FDI channel to mainland and R-QFII

• Offshore RMB markets critical to trade and manage risks needs infrastructure to support liquidity

• Full convertibility unnecessary but some cross border flows and arbitrage needed to sustain market development

• Infrastructure for RMB settlement important but what else is needed?

Focus of China’s capital account opening shifts to liberalizing cross-border RMB flows ...

2007 Mainland financial institutions allowed to issue RMB-denominated bonds in HK subject to approval

2009 RMB cross-border trade settlement

2010 Foreign companies can issue RMB- bonds in HK

2011 RMB FDI and ODI

2012 Qianhai Shenzhen-Hong Kong Cooperation Zone will allow HK banks to lend directly to mainland firms

Hong Kong RMB deposit growth surged early but has since levelled off as RMB trade settlement stabilized

The share of trade settlement in RMB has levelled off as volatility makes it riskier to denominate trade in RMB

Banks have issues CDs that have absorbed deposits flows as they increase RMB lending (68 bn, end-Sept)

Issuance of RMB Bonds surges while banks issue RMB CDs to raise funds for RMB lending

RMB denominated FDI to the mainland has surged

The creation of the RMB QFII also boosted RMB portfolio flows from Hong Kong to the Mainland

Measures supported RMB internationalization

Sources of RMB funds Uses of RMB funds

2004 Deposits, exchange – individuals, designated merchants

2009 RMB trade settlement

2010 RMB CDs, FI accounts

2010–2012 trade settlement expanded

2011 CN’s ODI settled in RMB

2012 RMB LTD ratio relaxed

2012 RMB liquidity facility at HKMA

2012 RMB deposits for non-residents

2004 Exchange, remittance

2007 RMB bonds

2010 RMB loans to corporates

2010 Pilot scheme to invest in Mainland interbank bond market

2011 Stock listing in RMB

2011 RMB FDI

2011 RMB Loans relating to CN’s ODI

2012 RMB QFII – A-share ETF

2012 Qianhai plan allowing HK banks to lend from HK to CH

Volatility in CNH-CNY differential reflect incomplete financial integration in offshore and onshore market

Volatility in CNH-CNY differential reflect incomplete financial integration in offshore and onshore market

Short term capital inflows to China and the CNY-CNH basis

Challenges for RMB internationalization remain

• RMB internationalization has depended on measures expanding cross border flows of RMB

• Demand for offshore RMB financial products healthy, but

• RMB liquidity in Hong Kong is tightening as both RMB deposits and trade settlement volumes have leveled off

• Redenomination of trade from dollars to RMB is slowed by the difficulty hedging RMB interest rate risk

• RMB internationalization must be a market driven process, the supporting infrastructure need further development