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Monday 21 December 2015
By Kotak Securities:
What are the Special Drawing Rights (SDR)?
The Special Drawing Rights is a reserve asset created by the International Monetary Fund (IMF) in 1969 as a supplement to member countries’ foreign exchange reserves and a financial instrument to offer help with liquidity to member nations facing a payment crisis. It is not a currency, nor a claim on the IMF, but it can be exchanged for freely usable currencies. It bears an interest rate, which is set each week. The value of the SDR is currently based on a basket of four currencies - the US dollar, the euro, the British pound and the Japanese yen. The IMF reviews the basket’s composition every five years.
Criteria to be included in the SDR:
A nation’s export of goods and services should account for 1 per cent of the world’s total, or stand among the top rank. (China’s export share in global trade ranked first at 12.4 per cent in 2014). The currency must be “widely used” for international transactions and “widely traded” in the foreign exchange transactions. China made its first attempt for the yuan to be included in the currency basket in 2010, but failed as it didn’t meet this second requirement.
What has China done this year to prepare for the yuan’s inclusion in the SDR?
The central bank ended a soft peg to the US dollar on August 11 and revised the pricing mechanism to set yuan/dollar central parity to make the rate reflect closing prices the previous day. It intervened later to narrow the spread of onshore and offshore yuan rate. China announced it would open the domestic foreign exchange market to foreign monetary authorities and sovereign wealth funds and removed quota controls on their investment in bond markets. The China International Payment System started operations in October to provide clearing and payment services in the cross-border yuan and offshore yuan business, a boost for the currency’s global use by cutting transaction costs and processing times. Central bank Governor Zhou Xiaochuan informed the International Monetary Fund in October that China had started to switch to SDDS, a statistical system created by the IMF to compile and release economic data, including GDP, foreign exchange reserves and balance of international payments, to enhance transparency and the credibility of economic statistics. The Ministry of Finance started to issue three-month treasury bonds in October with the coupon rate serving as a reference for the SDR’s interest rate after the yuan’s inclusion in the currency basket. The People’s Bank of China removed the floor on lending rates in 2013 and lifted the ceiling on deposit rates in October this year, a milestone in interest rate liberalisation.
China’s push for increasing the use of the yuan around the world:
Central bank chief Zhou Xiaochuan proposed a super-sovereign reserve currency based on SDRs in 2009 in a bid to reduce reliance on a single hard currency, implying he was referring to the US dollar. He suggest expanding the currency basket to cover major economies using GDP as a reference, hinting that a bigger role was possible for China. China started a trial of cross-border trade settlement in the yuan in Shanghai and three cities in Guandong in 2009 and expanded the programme nationwide in July 2012. It tasked the Shanghai Free Trade Zone to pilot capital account liberalisation in 2013 and announced further plans to deepen the reforms, including the launch of outbound direct investment by individuals. Qianhai, a district in Shenzhen, is also exploring opening up capital account convertibility. China launched the Hong Kong-Shanghai Stock Connect programme in 2014 and will kick off a feasibility study for a similar programme between Shanghai and the London stock exchange. The People’s Bank of China issued its first overseas yuan notes in London on October 20, offering liquidity instruments and pricing benchmarks for offshore yuan products. China started to adopt yuan denomination for domestic crude oil futures from August 1.
Details of the yuan’s inclusion in the SDR and the significance of move:
The yuan was granted a weighting of 10.92% in the SDR basket. Its official inclusion will start from October 1 next year. It marks a rise in the economic clout of China, reducing its heavy reliance on the US dollar and increasing the nation’s influence around the world on economic and financial issues. The US dollar, however, remains as the dominant international currency. Member countries will adjust their foreign exchange reserves following the weighting adjustment in the new SDR basket. Economists estimate that 1 trillion yuan (HK$1.2 trillion) of global reserves will migrate to renminbi assets. It will increase yuan’s use in the International Monetary Fund, such as China having the ability to offer yuan funds to the IMf and take part in financial bailouts. It will be a catalyst for further financial reforms and the development of domestic capital markets in China, such as a more liquid and transparent bond market, opening up markets to foreign agencies investment. It will mark a political victory for Zhou Xiaochuan and other financial reformers in China. It will also form part of President Xi Jinping’s political legacy. It will help strengthen confidence in the yuan and is likely to attract foreign banks to diversify into wider renminbi assets in the long term. There is debate about the short-term impact on the yuan, with additional uncertainty due to the US Federal Reserve’s ongoing discussions over whether to increase interest rates. But in the long run as a reserve currency, it will support a stronger yuan. It will reinforce Beijing’s confidence in a market-decided value for the yuan, which might lead to a free-up of the central bank’s monetary policy in the long run.
Source: SCMP, Global Research
What are the Special Drawing Rights (SDR)?
The Special Drawing Rights is a reserve asset created by the International Monetary Fund (IMF) in 1969 as a supplement to member countries’ foreign exchange reserves and a financial instrument to offer help with liquidity to member nations facing a payment crisis. It is not a currency, nor a claim on the IMF, but it can be exchanged for freely usable currencies. It bears an interest rate, which is set each week. The value of the SDR is currently based on a basket of four currencies - the US dollar, the euro, the British pound and the Japanese yen. The IMF reviews the basket’s composition every five years.
Criteria to be included in the SDR:
A nation’s export of goods and services should account for 1 per cent of the world’s total, or stand among the top rank. (China’s export share in global trade ranked first at 12.4 per cent in 2014). The currency must be “widely used” for international transactions and “widely traded” in the foreign exchange transactions. China made its first attempt for the yuan to be included in the currency basket in 2010, but failed as it didn’t meet this second requirement.
What has China done this year to prepare for the yuan’s inclusion in the SDR?
The central bank ended a soft peg to the US dollar on August 11 and revised the pricing mechanism to set yuan/dollar central parity to make the rate reflect closing prices the previous day. It intervened later to narrow the spread of onshore and offshore yuan rate. China announced it would open the domestic foreign exchange market to foreign monetary authorities and sovereign wealth funds and removed quota controls on their investment in bond markets. The China International Payment System started operations in October to provide clearing and payment services in the cross-border yuan and offshore yuan business, a boost for the currency’s global use by cutting transaction costs and processing times. Central bank Governor Zhou Xiaochuan informed the International Monetary Fund in October that China had started to switch to SDDS, a statistical system created by the IMF to compile and release economic data, including GDP, foreign exchange reserves and balance of international payments, to enhance transparency and the credibility of economic statistics. The Ministry of Finance started to issue three-month treasury bonds in October with the coupon rate serving as a reference for the SDR’s interest rate after the yuan’s inclusion in the currency basket. The People’s Bank of China removed the floor on lending rates in 2013 and lifted the ceiling on deposit rates in October this year, a milestone in interest rate liberalisation.
China’s push for increasing the use of the yuan around the world:
Central bank chief Zhou Xiaochuan proposed a super-sovereign reserve currency based on SDRs in 2009 in a bid to reduce reliance on a single hard currency, implying he was referring to the US dollar. He suggest expanding the currency basket to cover major economies using GDP as a reference, hinting that a bigger role was possible for China. China started a trial of cross-border trade settlement in the yuan in Shanghai and three cities in Guandong in 2009 and expanded the programme nationwide in July 2012. It tasked the Shanghai Free Trade Zone to pilot capital account liberalisation in 2013 and announced further plans to deepen the reforms, including the launch of outbound direct investment by individuals. Qianhai, a district in Shenzhen, is also exploring opening up capital account convertibility. China launched the Hong Kong-Shanghai Stock Connect programme in 2014 and will kick off a feasibility study for a similar programme between Shanghai and the London stock exchange. The People’s Bank of China issued its first overseas yuan notes in London on October 20, offering liquidity instruments and pricing benchmarks for offshore yuan products. China started to adopt yuan denomination for domestic crude oil futures from August 1.
Details of the yuan’s inclusion in the SDR and the significance of move:
The yuan was granted a weighting of 10.92% in the SDR basket. Its official inclusion will start from October 1 next year. It marks a rise in the economic clout of China, reducing its heavy reliance on the US dollar and increasing the nation’s influence around the world on economic and financial issues. The US dollar, however, remains as the dominant international currency. Member countries will adjust their foreign exchange reserves following the weighting adjustment in the new SDR basket. Economists estimate that 1 trillion yuan (HK$1.2 trillion) of global reserves will migrate to renminbi assets. It will increase yuan’s use in the International Monetary Fund, such as China having the ability to offer yuan funds to the IMf and take part in financial bailouts. It will be a catalyst for further financial reforms and the development of domestic capital markets in China, such as a more liquid and transparent bond market, opening up markets to foreign agencies investment. It will mark a political victory for Zhou Xiaochuan and other financial reformers in China. It will also form part of President Xi Jinping’s political legacy. It will help strengthen confidence in the yuan and is likely to attract foreign banks to diversify into wider renminbi assets in the long term. There is debate about the short-term impact on the yuan, with additional uncertainty due to the US Federal Reserve’s ongoing discussions over whether to increase interest rates. But in the long run as a reserve currency, it will support a stronger yuan. It will reinforce Beijing’s confidence in a market-decided value for the yuan, which might lead to a free-up of the central bank’s monetary policy in the long run.
Source: SCMP, Global Research
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