IMF’s SDR: Chinese currency may attract five per cent of global reserves
With the Inclusion of renminbi- China’s currency in the International Monetary Fund (IMF) Special Drawing Rights (SDR) basket, there is an expectation that global central banks may reallocate one per cent of their reserve investments into the internationally recognised legal tender.
The projection is also expected to cause inflows of $85 billion to $125 billion from global central banks in 2016, with at least five per cent of global reserves being denominated in the currency by 2020.
Already, Standard Chartered said the gradual pick-up of diversification inflows into the currency from international investors and reserves managers, would be a critical underlying support for it in the coming years.
Also, there are indications that central banks are likely to favour products such as renminbi bonds issued by the Chinese government, policy banks, high quality corporate bonds and supranationals, while at the shorter-end of the curves, treasury bills and bank deposits.
The IMF had recently completed the regular five-yearly review of the basket of currencies that make up its SDR, with key focus on whether the Chinese renminbi met the existing criteria to be included in the basket.
It however, decided that the RMB met all existing criteria and, effective October 1, 2016 the RMB is determined to be a freely usable currency and will be included in the SDR basket as a fifth currency, along with the U.S. dollar, the euro, the Japanese yen and the British pound.
Launching the new SDR basket on October 1, 2016 will provide sufficient lead time for the Fund, its members and other SDR users to adjust to these changes.
IMF Managing Director, Ms Christine Lagarde, said: “The decision to include the RMB in the SDR basket is an important milestone in the integration of the Chinese economy into the global financial system.
“It is also a recognition of the progress that the Chinese authorities have made in the past years in reforming China’s monetary and financial systems. The continuation and deepening of these efforts will bring about a more robust international monetary and financial system, which in turn will support the growth and stability of China and the global economy.”
Consequently, the value of the SDR will be based on a weighted average of the values of the basket of currencies comprising the U.S. dollar, euro, the Chinese renminbi, Japanese yen, and British pound.
The inclusion of the RMB will enhance the attractiveness of the SDR by diversifying the basket and making it more representative of the world’s major currencies.
The SDR interest rate will continue to be determined as a weighted average of the interest rates on short-term financial instruments in the markets of the currencies in the SDR basket.
Authorities of all currencies represented in the SDR basket, which now includes the Chinese authorities, are expected to maintain a policy framework that facilitates operations for the IMF, its membership and other SDR users in their currencies.
The expected rising usage of the renminbi by corporates, financial institutions, and investors alike, is an affirmation that from trade, investment to now becoming a global reserve currency, the renminbi has embarked on an irreversible journey.
“The official recognition of the renminbi as a global reserve currency is more than just an important milestone for the Chinese currency; it has significant, game-changing effects on the rest of the world’s markets.
“Within slightly over a decade, China’s extensive reforms have propelled the renminbi from being non-existent on the world stage to becoming a currency in IMF’s SDR basket.
“The inclusion of renminbi into the SDR speaks volumes about how much China has accomplished since it embarked on its reforms in 2004. The speed of development has been striking and marks the beginning of another new chapter,” the Group Chief Executive, Standard Chartered, Bill Winters, said.
Also, the bank’s Greater China and North Asia Chief Executive Officer, Benjamin Hung, noted: “We are expecting further steps to include flexible cross-border investments and remittance, expansion of free trade zones and greater opening up of capital account.
“We are confident that China will remain committed in promoting its currency in a steadfast and well-paced manner, on track to meet our forecast of becoming a G3 currency by 2020.
“In the interim, there will inevitably be uncertainties and volatilities across financial markets, be it greater two-way U.S. dollar-renminbi variability or financial flows as international investors and reserve managers adjust their portfolio over time.
“It is important to brace ourselves for these developments as it takes time for market participants to rebalance against a new reserve currency, which will eventually bring positive changes to global financial markets across foreign exchange, rates, fixed-income and other asset classes.”