Renminbi Settlement for Competitive Advantage

The growth in usage of the Chinese renminbi (RMB) for settlement over the past several years has been quite rapid, and usage of the RMB is expected to continue to grow quickly. Speaking at an HSBC Trade Connections event in Shanghai, HSBC senior vice president (SVP) for business planning and strategy, Ben Chan, gave his insights into the reasons for this growth, why more companies are using the RMB for settlement and what to expect in the future.

Growth of RMB Settlement

Chan said that the RMB has actually been convertible for trade settlement since 1996, and the restrictions now are primarily just on capital accounts and some exports. Companies can settle in RMB for all transactions except the export of goods, where RMB settlement is currently limited to 67,000 companies.

He sees several reasons why the RMB has increasingly become an international currency. In part, China’s emergence as the second largest economy in the world means that “there is a gap that needs to be filled”. Furthermore, China has huge reserves in US dollars and if the US dollar depreciates – which it has been doing – denominating everything in US dollars is not as attractive. If the currency became fully convertible, Chan said, the RMB would currently be “the third largest in the world” in terms of average daily turnover.

Even though RMB settlement can happen anywhere in the world except for Taiwan, Chan noted that “Hong Kong is indeed an offshore RMB centre” and over 80% of RMB settlement is in Hong Kong. Currently about RMB134bn is settled in RMB in Hong Kong every month. Additionally, about 8% of the total deposits in Hong Kong are denominated in RMB, and the steady conversion of both corporate and personal funds into RMB means that those deposits are expected to grow from the current level of about RMB511bn to over RMB1 trillion by the end of 2011. While Chan expects the Hong Kong dollar to “remain unchanged for at least 50 years” under the terms of the original agreement for Hong Kong, the extent to which it will actually be used over time is “an interesting question” and he expects the RMB “will be used more frequently in the daily life of Hong Kong.”

HSBC head of trade and supply chain for China, Bruce Alter, who also participated in the session, noted that Singapore is becoming “a mini Asia hub” for the RMB, although it is still dwarfed by the far higher volumes in Hong Kong.

Using the RMB for Settlement

Chan said that corporates can potentially gain several benefits when they use the RMB for settlement. One is that corporates can hedge using the RMB, and another is that using it reduces transaction costs. RMB settlement also allows corporates to diversify their currency portfolio, which can be especially important when the RMB is appreciating by about 5% per year against the US dollar.

With these benefits in mind, Chan said there are several reasons why corporates doing business with Chinese companies should prepare for using the RMB earlier rather than later. One is that the currency appreciation looks set to continue. The RMB business has also been developing faster than many companies may have expected, and they may need to start using it sooner in order to compete more effectively. And since “it takes time to change the internal enterprise resource planning (ERP) system”, companies that want to use the RMB need to start work on system changes soon.

Chan summarised the changes needed to use the RMB for settlement into three steps:

  1. Companies need to modify their internal system so that they’re ready to handle the currency.
  2. They need to engage their external partners to determine which companies will transact in RMB. They need to start doing deals with these companies in that currency
  3. They need to choose their RMB bank.

Chan said that the financial benefits of using the RMB can be as high as 5-7% for each transaction. Along with enabling better management of currencies in the face of appreciation, using the RMB can result in more efficient processing of payments and the potential for RMB hedging. Payments may be processed faster, too, since they have to go through fewer authorities than would foreign currency payments.

Furthermore, Chinese suppliers “may ask for a premium when quoting prices in US dollars”, since they need to factor in the depreciation of the US dollar, and companies can sometimes get better pricing if they ask for quotes in both currencies. While these benefits can accrue to all companies, Chan said they may be even more important for high-volume low-margin businesses since “a small margin of savings can make a big difference”.

Chan did note that there can be “differences between national policy and regional or city policy”, and it can take time for national policies facilitating RMB settlement to go down to all parts of the country. In reality, then, it’s possible that there may be issues such as “some kind of delay” for Chinese companies in getting tax refunds for exports until local authorities fully understand and implement the national policy for RMB settlement.

Alter also said that companies that settle in RMB “may be one step ahead of an importer or exporter” that does not use it, and they can gain an edge over their competitors because they are helping their Chinese counterparty take advantage of some of these benefits.

Increasing Use of the RMB

Chan indicated that the RMB is likely to become fully convertible before long and said there have been several hints as to when that will happen. For one, China has said that Shanghai will become an international financial centre (IFC) by 2020, and the RMB would need to be fully convertible for this to happen. The People’s Bank of China has also said that full convertibility can come even earlier if “there is market demand for full convertibility.” It’s easy to conclude, then, that the RMB will become fully convertible in less than a decade.

With full convertibility on the horizon and a multitude of benefits from using the currency for settlement, it looks like RMB settlement will only continue to grow even more strongly.

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