Businesses that trade with China are becoming increasingly aware of the growing role the renminbi will have in trade settlements, and banks are keen to demonstrate that they are well positioned to make those payments as seamless as possible. As awareness grows of paying in renminbi – rather than US dollars – clients also need advisory services to keep them abreast of the rapidly changing regulations concerning the currency.
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China has set out its policy for the internationalisation of the renminbi, and businesses – and banks – are beginning to realise its growing importance. George Nast, global head of product management for transaction banking at Standard Chartered, says that 2011 was the year when renminbi as an international currency became mainstream. He says of this increasing adoption of the renminbi: “This is not because of government diktat, it is because clients are demanding it.”
The redback's advance
The rise of the redback has not had a ‘big bang’ moment or been the subject of dramatic headlines, which leads David Bloom, HSBC’s global head of foreign exchange strategy, to describe the growth of the renminbi as “more tai chi than karate”.
Other executives describe the development as a 'creep', where the renminbi is gradually becoming the norm for settling international trade, especially given China’s economic growth. Norman Chan, chief executive of the Hong Kong Monetary Authority (HKMA), cites figures from the International Monetary Fund to show that China’s gross domestic product grew by 18 times between 1980 and 2010, and that the country's contribution to global economic growth is projected to increase to 36% by 2016.
Trade with China has also been growing rapidly, and what is perhaps surprising is that the renminbi has not been used more, given China’s trading volumes with the rest of the world.
This is beginning to change as China has begun to gradually open up the use of the renminbi in stages. The process began in July 2009 when cross-border renminbi settlement was introduced to five pilot cities in China that were allowed to settle with companies in Hong Kong, Macau and members of the Association of South-east Asian Nations.
In June 2010 that pilot was expanded to 20 provinces in China and some international companies, as long as the banks involved were licensed under the cross-border settlement scheme. In August 2011, the Chinese central bank extended the scheme to include all areas in China. The pace of change has surprised many, and those that are involved in the renminbi business are struggling to keep up with all the regulatory changes that are occurring.
The global currency
As the internationalisation of the renminbi is becoming more of a topic of discussion among international companies, more businesses are considering what they can and cannot do if they want to make – or receive – payments from their Chinese counterparts in renminbi.
In an indication of the growing popularity of the currency, the HSBC Trade Confidence Index in May 2011 found that 57% of Hong Kong traders said they would use renminbi for trade settlement in the next six months. And according to HSBC’s in-house estimates, more than half of China’s international trade, or more than $2000bn-worth of trade, could be settled in renminbi by 2015.
While the pace is picking up, it is still early days in the growth story of the internationalisation of the renminbi. Trade settlement is seen by many as the first step on the renminbi’s journey to becoming an international currency that is fully convertible and will one day be used as a reserve currency.
Libo Wang, deputy general manager of ICBC’s custody service department, explains that China sees the internationalisation of its currency in three steps. The first is using renminbi for clearing and settlement. The second step is the renminbi as an investment currency, and the third is the renminbi being used as a reserve currency. “At the moment we are between step one and two,” says Mr Wang.
Dim sum bonds
The rise of the dim sum bond market in Hong Kong – which forms part of the second stage of the renminbi as an investible product – has received a lot of attention in recent months and has been a popular option for a number of international companies.There are, however, still many restrictions that remain between the offshore renminbi market and the onshore market in mainland China.
While the policy of China is one towards internationalising of its currency, the process is gradual and is being taken in a number of stages so that one day renminbi will be bought, sold, lent and borrowed freely across mainland China’s borders.
Bankers in China seem fond of using analogies to describe the gap between the onshore and the offshore renminbi markets. It could, for example, be described as a dam that is preventing money flooding in – or out – of China. Ben Chan, HSBC’s deputy head of business planning and strategy in Hong Kong, describes the process of internationalisation as a door that is being gradually opened. “When the door is fully open the difference between the offshore and onshore renminbi will disappear, then the money can flow in and out easily,” he says. One reason for the slow opening of the door is that China is reluctant to introduce the policy changes too quickly as there is the fear that money could rush in or rush out and cause instability in the global financial markets.
For trade payments, however, there are no restrictions in getting the money in and out of China, as long as the settlement is for trade. If there is genuine trade underlying the transaction, then the renminbi can flow without restriction to the mainland. “With trade settlement, whatever can be relaxed has more or less been relaxed,” says HSBC's Mr Chan.
Bridging the gap
Norman Chan at HKMA likens the gap between the onshore and the offshore renminbi markets as a river that is linked by three bridges: trade payments, direct investment into and out of China, and the financial market flows.
The stages of the renminbi’s evolution into an international currency are not necessarily distinct, as trade settlement and investment often go hand in hand. HKMA's Mr Chan elaborates, commenting that trade and investment are inter-linked, and the investment usually starts with a trade relationship. He adds that the bridges that link the onshore and offshore market are not necessarily separate and can often be quite close together.
For trade payments, there are no restrictions in getting the money in and out of China, as long as the settlement is for trade
If, for example, a company is exporting products to China and its management has the opportunity to observe local business practices, they might realise that by setting up their own operations in the country they could have a competitive advantage. If the company wants to invest in China, it could issue an offshore renminbi bond in Hong Kong for their funding to do such a venture.
Fonterra's example
One such company that has followed this path is Fonterra, a multinational New Zealand-based dairy co-operative. The company has taken the initiative in the first two steps – as outlined by ICBC’s Mr Wang – of the internationalisation process. It has made arrangements so that it can use renminbi for trade settlement, and the company has also issued an offshore renminbi bond for its funding requirements.
Fonterra worked on these processes at the same time, showing that the steps of the internationalisation process do not have to follow each other in consequential order.
Stephan Deschamps, general manager of Fonterra Treasury, says that there were two reasons behind the move towards using the renminbi. The first, he says, is China has become the most significant country that Fonterra is doing business with. And commenting on the second reason, he says: “There is clearly a push from China to make the renminbi an international currency.”
By being at the forefront of the companies that are doing business in renminbi, Mr Deschamps says that it gives Fonterra a competitive advantage over its rivals in China. Commenting on the increasing use of the renminbi, Mr Deschamps believes that settling trade this way will become the norm. “It is what we have to do to do business in China,” he says.
From all angles
The drive for the adoption of the renminbi is coming from both sides of trade relationships: Chinese companies are asking their international trading partners to pay them in renminbi, while some foreign companies are asking their Chinese counterparts to prepare for renminbi payments.
There is clearly a push from China to make the renminbi an international currency
Mr Chan at HSBC says it has been Hong Kong companies with subsidiaries in China, and Chinese companies with Hong Kong subsidiaries, that have been the first to adopt renminbi payments. Next are multinational corporations with Chinese subsidiaries, followed by companies in Hong Kong that have a trading relationship with a company in China. The last wave of adopters is other international companies that have trading relationships with China.
One of the benefits of settling in renminbi is the cost savings on the transaction. Craig Bond, chief executive at Standard Bank China, notes that Chinese suppliers are offering discounts to South African buyers if they settle in renminbi. Mr Bond adds that there is also a benefit when submitting value-added tax claims in China as the VAT claim is instantaneous if the payment has been made in renminbi, but it is a more lengthy process if it has been paid in dollars.
Another benefit to paying in renminbi is that the payment process is more efficient. And since there is no need to convert the payment into US dollars before it is remitted, this currency exchange risk is taken out of the transaction.
While there are a number of benefits to paying in renminbi, the processes that need to be changed go beyond substituting one currency for another on the invoice. And the bigger the company, the more complicated the processes are that need to be changed. For example, contracts have to be renegotiated and risk management has to be reconsidered. And for multinational corporations there are a number of departments that have to make a number of changes to their processes, such as the legal team, the IT department and treasury department.
Cross-border settlements
A company that wants to make a cross-border renminbi settlement would have to open an offshore trade settlement account, receive the invoices in renminbi and then have to confirm that its Chinese supplier is registered to receive renminbi payments with the local authorities in China. And when the funds are converted into renminbi and remitted, a range of documents need to support the transaction. Navigating through all the requirements can be confusing for some businesses, and for this reason a number of banks have anticipated the advisory support that they will need before they start making trade payments in renminbi.
Mr Deschamps says that the technical changes needed to be made at Fonterra to begin using renminbi were not huge. However, he believes that one reason other companies have not adopted renminbi is because the administration and approval processes to get renminbi in and out of mainland China are still quite complicated.
Evolving rulebook
Although awareness has picked up in the past year, the rules and regulations surrounding the use of renminbi can be difficult to follow, especially as they keep changing. Uncertainty about the processes involved is not the only reason for companies to hesitate to settle in renminbi.
Neil Daswani, Standard Chartered’s regional head of transaction banking in north Asia, says that the inertia with some companies using renminbi is because of their “hard-wiring” and that they are so used to making payments in dollars. “If the trading partner is used to invoicing in US dollars, it is easier said than done to move from dollars to renminbi. Once they have tried it, they realise it works and it works efficiently,” he says.
And with the direction of the internationalisation of the currency, Mr Daswani has words of warning for companies that are slow to adopt renminbi. “Be afraid, be very afraid. If you are not having a dialogue with your trading partner about renminbi, then your competitor will,” he adds.
Such comments reflect the sentiment of many bankers in the renminbi business, who argue that the renminbi is well on its way to becoming the norm for trade settlement, and also to becoming an international currency.
