Towards a Redback World

China's renminbi is making solid headway towards becoming a regional currency. Use of the renminbi, which is sometimes known as the redback, is now common in trade dealings with many neighbouring markets. Nevertheless, although tight controls on capital-account transactions using the currency remain in place, the renminbi is unlikely to usurp the US dollar's "exorbitant privilege" as a global currency.

Once every three years the Bank for International Settlements (BIS) releases a survey of foreign-exchange turnover. This represents the best measure of the use of various important currencies in foreign-exchange transactions. In 2001 the renminbi did not even register on the BIS ranking, accounting for less than 0.1% of all such transactions, but in the latest survey, published in September 2013, the redback had risen to account for 2.2% of all foreign-exchange transactions (out of 200%, owing to the fact that each transaction involves two currencies). This ranked it as the ninth most commonly used currency.

From a standing start

The speed of the renminbi's take-off on global markets has been phenomenal, given that the process of internationalising the currency only really began in 2009. In that year the government started allowing a few Chinese firms to trade internationally using the renminbi, a pilot scheme that was rapidly expanded in subsequent years. Given that the market consensus in those years was that the redback was set to appreciate significantly, many firms were keen to accept renminbi; fewer wanted to pay in the currency. These renminbi-denominated trade transactions were accompanied by a string of renminbi swap agreements signed between the People's Bank of China (PBC, China's central bank) and central banks across the world.

The next big step for the redback's liberation was the central government's decision to accelerate the development of an offshore market for the currency in Hong Kong. The territory had long allowed retail banks to offer renminbi-denominated deposit accounts for individuals, and in 2007 had initiated the "dim sum" bond market of renminbi-denominated issues. However, things did not really take off until 2010, when the PBC lifted restrictions on Hong Kong's use of offshore renminbi, clearing the way for corporate accounts and interbank transfer services in the currency.

Freer, but not yet free

Since then, the Chinese authorities have also taken several measures to smooth the path for flows on the capital-account side. Restrictions on Chinese firms investing offshore with renminbi have been eased, and in July 2013 the authorities permitted multinational operations within China to extend renminbi loans to their sister entities overseas. It has also been made slightly easier for foreign investors to bring their offshore renminbi back into China's financial markets. For example, in August 2010 China announced the creation of quotas for certain foreign financial institutions with offshore renminbi holdings to trade on Chinese interbank debt markets.

Nevertheless, many types of crossborder financial transactions involving renminbi remain subject to expensive paperwork, and for many types of fund transfers into China there is often a degree of uncertainty over whether regulatory approvals will be given. The dim sum bond market is also immature, with relatively low levels of liquidity and turnover. Issuance of dim sum bonds froze for several months in mid-2013 amid investor doubts about emerging-market prospects, before a new issue by Total, a French energy firm, reinjected some dynamism in September.

Hong Kong, heart of the redback world

These obstacles have obviously hindered the redback's use in global markets, but growth has still been explosive. Hong Kong remains the key nexus for crossborder renminbi transactions. Between the end of January 2010 and end-July 2013 the value of renminbi deposits held in the territory rose from Rmb64bn (US$10.3bn) to Rmb695bn. The Hong Kong Monetary Authority (which serves some of the functions of a central bank) also reported that remittances for crossborder trade settlement amounted to Rmb831bn in the first quarter of 2013, equivalent to around 13.6% of the value of China's total goods trade during the period.

However, Hong Kong is not the only place to have taken to the redback. Other markets have also seen rapid adoption. An Asia-based magazine, The Asset, reported in September that, as of May, some 47 countries settled more than 10% of their payments with Hong Kong or China in renminbi, with particularly widespread use of the currency in such transactions in South Korea, Taiwan, Singapore, the Philippines, France, the UAE and the UK. It is notable that at least three of these countries—namely Taiwan, Singapore and the UK—have sought to position themselves as offshore centres for renminbi-denominated financial services, and have been designated offshore renminbi clearing centres by the PBC. Reports from Bloomberg, a US-based newswire service, indicate that Australia is also a major user of the currency in trade settlements.

Green beats red—for now

These developments suggest that the redback is well on the way to emerging as a key settlement currency, especially for trade and particularly in Asia. Nevertheless, the BIS figures show how far a leap it is to move from this position to become a truly global currency. With 2.2% (out of 200%) of global foreign-exchange transactions, the renminbi still lies behind currencies like the Mexican peso and the Canadian dollar. It has a long way to go before it matches even the British pound, with 11.8% of transactions, let alone the US dollar's 87%.

The redback remains unlikely to break into the top five globally traded currencies until China fully opens its capital markets, builds a broader and more sophisticated range of investment products, and improves regulatory standards in its financial markets. These developments should occur in time, but the US dollar's primacy on the global currency markets is unlikely to be seriously threatened within the next decade.

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