China Takes a Big Step to Make the Yuan a Rival to the Dollar

Beijing looks to its reformist past to launch an important experiment aimed at expanding the country’s role in global finance

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PETER PARKS / AFP / Getty Images

Two businesmen talk between skyscrapers in the southern Chinese city of Shenzhen in the province of Guangdong

Shenzhen is where China’s economic miracle began. Back in 1980, Deng Xiaoping and his Beijing comrades launched a special economic zone, or SEZ, in the southern enclave that became the center of a grand experiment in introducing free capitalism into Communist China. Foreign investors were invited to set up factories in the zone, cracking open the tightly controlled economy to the outside world, and as money poured in, attracted by China’s cheap and plentiful labor, world economic history was altered forever. The Asian giant was transformed from an agrarian basket case into the “Workshop of the World” and chief rival to American economic dominance.

Now Beijing is again turning to Shenzhen for a new batch of trials with capitalism by dusting off that old idea of the SEZ and repurposing it. The consequences could prove just as sweeping for both China and the world. On Friday, Chinese policymakers formally revealed that they would turn a slice of Shenzhen into a new sort of SEZ to experiment in currency convertibility. The SEZ, called the “Qianhai Shenzhen-Hong Kong Modern Service Industry Cooperation Zone” will be developed near the border with bustling Hong Kong at a cost of $45 billion. Details on exactly what financial reforms will take place in the zone were sparse. It is possible that the measures will include the permission of some cross-border yuan lending between Hong Kong and mainland firms. But the purpose was made clear: China is will take steps to free up the ways in which its currency, called the yuan or renminbi (RMB), can be used in international finance. “The country’s policy is to gradually open up its capital account and realize the full convertibility of the yuan,” said Zhang Xiaoqiang, vice chairman of China’s influential National Development and Reform Commission. “Qianhai, as the first experimental zone of the country’s modern service industry, should be a pioneer of that.”

(MORE: China’s Antiquated Financial System: The Creaking Grows Louder)

In introducing this zone, China is taking an important step towards achieving one of its major goals – elevating itself from solely a global manufacturing power into a global financial power as well. Beijing has been striving to make its currency, called the yuan or renminbi (RMB), more widely used internationally, and thanks to the growing importance of China in global trade, the yuan has been gaining something of a worldwide profile. The yuan is being used more frequently in trade conducted between China and its trading partners. In a mere three years, the share of China’s international trade settled in yuan increased from nothing to 8% in 2011. Beijing has been encouraging this trend through a series of currency swap arrangements to make the yuan more readily available. China inked just such a deal, of nearly $30 billion, with Brazil in June.  Some Chinese companies have been permitted to settle trade transactions in yuan through Hong Kong banks, turning the special administrative region into the primary offshore center for business in the Chinese currency. More yuan-dominated securities are available for investors, such as the “dim sum” bonds traded in Hong Kong. As China’s economic might continues to grow, the influence of its currency will inevitably increase with it. “It is apparent that more and more central banks are realizing that alongside the secular decline of the USD (U.S. dollar) as a reserve currency, the RMB is the most likely currency to challenge the near-monopoly position of the USD in the global reserve system,” Jun Ma, Deutsche Bank’s chief economist for Greater China, wrote in a June 25 report.

Yet there are clear limits to how quickly the yuan can become a true rival to the dollar or even the euro. The yuan is still not fully convertible for financial transactions, nor is it widely traded outside of China. The value of the yuan remains controlled by the Chinese government. And since access for foreign investors to Chinese stocks and other assets is restricted, they don’t have much to buy with the yuan they do hold. Until trade in the yuan becomes more market-oriented and transparent, the yuan and yuan-denominated assets become widely available, and China’s financial markets become more open, Beijing’s dream of an internationally prominent currency will be unattainable. “Without an open capital account, the internationalization of the RMB can only achieve less than 10% of its potential,” Jun Ma added. “Capital controls, if not removed, will become the key bottleneck for RMB internationalization in the coming years.”

That’s why the new Shenzhen currency zone is so important. By allowing freer, cross-border financial transactions in yuan, Beijing is taking a step towards dismantling the capital controls that hold back the currency from being a force in the global economy. History tells us that what happens in Shenzhen doesn’t stay in Shenzhen. The market-opening reforms that began in the city in the 1980s were eventually rolled out on a national scale. This time, the currency reforms proposed for the new Shenzhen zone will also likely prove just a first move towards a much wider liberalization process for the yuan, which, in theory, could end with its full convertibility.

(MORE: Does China Have an Executive-Compensation Problem?)

That would truly transform the yuan into a major international currency able to pose a challenge to the dollar’s No. 1 status. But we are still very far away from such an outcome. The Shenzhen zone is one important reform in the many, many more that are needed. Jun Ma lists 18 important policy measures he feels need to take place to further the internationalization of the yuan, including opening up Chinese capital markets to foreign investors, promoting the pricing of commodities in yuan and increasing the flexibility of the currency’s exchange rate.

There is little reason to believe such reforms will take place quickly. In fact, there is no guarantee they will happen at all. China’s efforts to liberalize capital flows and its currency regime have been progressing at a glacial pace. The process of valuing the yuan is only slightly more market-oriented than it was seven years ago, when its peg to the dollar was first lifted. Chinese policymakers are still fearful of the sort of free cross-border capital flows that could become destabilizing in times of economic stress. They look upon the country’s capital controls as a key tool that protected the domestic economy from the ravages of the post-Lehman financial crisis in 2008. There are powerful interests, from exporters to state banks, which might be opposed to rapid financial liberalization. Achieving a fully convertible yuan will also require hefty reform of China’s domestic financial sector, which will entail deregulating interest rates and making the banking sector more competitive. With a major political transition due later this year, it is not clear what China’s new crop of cadres think about the pace of economic reform, placing a big question mark over future progress.

Yet the implications of the Shenzhen experiment for the global economy can’t be underestimated, either. Just as Shenzhen altered global manufacturing in the 1980s, it could alter global financial and currency markets in coming years. As China’s miracle continues, that’s probably more a matter of when than if.

MORE: Why China Faces a Catch-22 on Financial Reform

26 comments
Yizhou Situ
Yizhou Situ

yea right...

China doesn't want its currency to inflate, it wants to keep it at a relative low compared to foreign currencies, so that China can continue to export goods to foreign countries at more competitive prices, due to cheaper labor, etc...

According to the recent article THE CULT OF APPLE IN CHINA in the July 2 edition of TIME magazine, the average urban Chinese person's annual income is less than $3,500 american dollars...

On the surface, it appears as though the Chinese economy is becoming more stagnate, but in reality this is really how the communist party in Beijing is trying to prevent the Chinese currency from inflating, so as to keep exporting its goods at a lower costs and to attract foreign companies to hold production plants in China, where labor is a whole lot cheaper...

SailingNewYorkCity
SailingNewYorkCity

This is an interesting article although it ignores many other steps they have taken recently.  A commentator below brings up some interesting points about Hong Kong.  Right now one of the big advantages of Hong Kong is that of financial convertibility.   When they achieve a true convertibility that will definitely affect the status of Hong Kong.

Some have questioned or commented on the rise of the Yuan and the decline of the Dollar however, as disappointed as I am about our (U.S) decline, it seems to be inevitable.  The U.S. and Communist China are working together to bring this about.  Recently there have been a number of actions taken to make this happen.  The Secretary of State Hillary Clinton and the Treasury Secretary Timmy Geithner were recently in China to announce new cooperation including the granting of Communist China direct computer access to the U.S. Treasury (I think it is dumb but it is nonetheless a fact) and U.S. support for making the Yuan/RNB a reserve currency.  Several major banks have announced that you can now open certain accounts in Yuan/RNB denominations, etc.  The end result is that it is happening and will continue to accelerate over the next few years.

Communist China gets to fight inflation (thus reducing internal tension), international prestige, increased power, and increased stability.  The U.S. administration gets to avoid living within their means and gets to pay off excessive debt with deflated dollars while trying to save face.  It will be painful for those in the U.S. and those holding U.S. Dollars but unless the U.S. does what it needs to, e.g. live within its means, there is not much chance it will not happen.

Guest
Guest

Another nail in our coffin while our politicians just look on dumbly.

Chinga_Tu_Madre
Chinga_Tu_Madre

I hope China takes over as the dominant currency, and hopefully the don't inflate their currency to the point of near-worthlessness like our Fed.

Why is there any such organization like the Fed that can unilaterally devalue the money supply? How is this not tyranny?

rory2012
rory2012

I think you all got it wrong. The main purpose of this move is to relocate Hong Kong's importance as  a finance center within Chinese influence boundary.China appreciates Hong Kong's contribution toward the motherland since its open up to the world.Unfortunately Hong Kong people think somehow they are more superior than the mainlanders.Howerver the trend is somewhat changed.Since open up,China have more talent and the education level is getting higher than before and get pass Hong Kong's level in some way.Hong Kong people behave like a spoil kid,never appreciated how much his parent did for him since 1997.Once Hong Kong people realize they lost all the things they are proud of and use to have such as manufacture,commerce and finance center, then they will start stand up and sing the Chinese anthem.

Hill
Hill

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Chinga_Tu_Madre
Chinga_Tu_Madre

Hong Kong never needed China. In fact, they would be better of as a city-state like Singapore.

Daniel Tung
Daniel Tung

It's not an issue of need. It's sovereignty. HK unquestionably belongs to China.

The same is true for Taiwan and Tibet.

SailingNewYorkCity
SailingNewYorkCity

 Taiwan and Tibet clearly do NOT belong to Communist China.  Tibet is an occupied country.  Its culture, people, language, etc. are distinct and separate from that of Communist China and as a country goes back to around the 7th century.  Taiwan is a little more complicated but essentially it is its own country.  It has its own government and currency.  It was annexed by the Qing Dynasty in the 16th century but retained a distinct people and language until the KMT took over in the late forties.  In many ways they are like Canada and the U.S.  They share an history that has many common elements yet they are their own county.  There are other examples of this such as Germany and Austria,  Russia and the Ukraine, etc.

Goran Bajramovic
Goran Bajramovic

The title is misleading. This isn't a big step and it's not a step that would rival the dollar as a reserve currency. Title lured me in but I'm dissapointed by the points made.

Sharlene
Sharlene

as Mildred replied I am startled that a person can profit $6556 in one month on the computer. did you see this web page (Click on menu Home more information)   http://goo.gl/Dea0J  

adam_onge
adam_onge

China is a "frienemy" for the US.

It was easier for Americans to deal with an "honest enemy" like the Soviet Union during the Cold War, when the ideological demarcation lines were clearly drawn, than dealing with this cunning hypocritical Orwellian Chinese Communist government with their Dengian two cats policy. On  the whole, I do blame the short-sightedness of Wall Street and US politicians (starting with Nixon and Kissinger) for China's "rise". Well now somebody has to pay for it. We will see!

rory2012
rory2012

 You got it wrong mate.It's the US government do the back stabbing on every agreements.US official live in their shell and fool themselves only.

rory2012
rory2012

You got it wrong mate.US is the one cunning hypocritical.US official thought they are smart and play double act game.In fact they just live in their shell and fool themselves only.In one way say we going to be cooperated and be friend,as soon as turn the back----knife is on the back of the Chinese.

Daniel Tung
Daniel Tung

China a cunning government? You must be joking or you're saying something really stupid. 

Did China ever colonize any other country? Unlike the Western and Japanese, they NEVER. All they did in the past 2000 years was just to protect their soil from the outsiders. They precious their own nation's integrity, not others' soil and resources.

They are just hiding their weaknesses, not cunning at all. They are hurt from you imperialists had done to her in 100 years ago.

Remember that.

adam_onge
adam_onge

 You should learn some Asian history, but not just from "Chinese Annals". Asia has a long and complicated history and the Chinese view of history is rather one-sided and "self-glorifying". Do you actually speak any other Asian language?

SailingNewYorkCity
SailingNewYorkCity

 Yes, Communist China did colonize another country.  It invaded Tibet in 1950 and is now in the process of destroying its culture.  If you look at history you will see more examples however in contemporary time this is the most egregious example.  Still, this is unrelated to the article.  The article is discussing the Yuan and its growing role in the world of finance.

Frank Dull
Frank Dull

Did you forget Vietnam, Korea, Tibet, and Japan (failed in two attempts)?

Howard2009
Howard2009

After Nixon and Kissinger's landmark visit in 1972, and because of Deng's pragmatic policy, many ordinary Chinese people can now live a much better life than their parents in the 1970's.  Meanwhile the hard-working Chinese people have done big contributions to the well-off of the whole world in the past 2 decades.

So, don't blame Wall Street or US politicians (starting with Nixon and Kissinger) for China's progress, appreciate them instead. 

adam_onge
adam_onge

 What happened to the manufacturing jobs for the middle-class in the US?

I don't live in China!

Ageless_Match_C0M
Ageless_Match_C0M

Age is only a number of candles on your

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husband and I both think so.

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Firozali A.Mulla
Firozali A.Mulla

We

have heard if camel cannot go to water we will to enable it tio survive bring

the water to the camel Right? “Germany, at the heart of Europe, is one of our

strongest allies,” Obama said at a welcoming ceremony on the White House South

Lawn, calling Merkel “one of my closest global partners.” The U.S. relationship

with Germany, Obama said, shows that “wars can end, adversaries can become

allies, walls can come down.”

Merkel, through a translator, said Germans

know that “America has always been a true friend to us.” You see we all spoke

about the German lady as tough as Maggi well she has travelled to expand her

business, Can you beat that? Once Obama had said, The EURO is not my problem,

now all of a sudden the roses bloom in the yard? We all need cash from any

source the phrase was and is buy, borrow or stale here make more friend leave

UK and go shopping see, the huge America there may be more opportunity in the

huge vast land rather then small UK. People change as soon as the see the cash.

If I get this from here I will travel there. No pun, no offences meant I thank

you Firozali A.Mulla DBA

Firozali A.Mulla
Firozali A.Mulla

I love this

mud slinging after the years we hade the fall. We had A LOT OF TIME TO GO WELL

ON THE RAILS OF THE GOOD ECEONOMY, WE MISSED THE chance NOW WE Tell tales. At

last we have come to a stage when we have to vote to say where we stand.

"There is more to come - further moves, probably further treaties - where

we can take forward our interests, safeguard the single market and stay out of

a federal Europe. He acknowledged that the country's position within an

evolving European Union must have "the full-hearted support of the British

people".  He insisted that the vast

majority of the public did not support an immediate referendum on whether

Britain should be in or out. Nearly 100 Conservative MPs have written to Mr

Cameron urging him to make it a legal commitment to hold a poll on the EU

during the next parliament but Mr Cameron was cautious about how the issue

would be put to people. He said: "There is more to come - further moves,

probably further treaties - where we can take forward our interests, safeguard

the single market and stay out of a federal Europe. "How do we take the

British people with us on this difficult and complicated journey? How do we

avoid the wrong paths of either meekly accepting the status quo or giving up

altogether and preparing to leave? "It will undoubtedly be hard going, but

taking the right path in politics often is. "As we get closer to the end

point we will need to consider how best to get the full-hearted support of the

British people, whether it is in a general election or a referendum. "As I

have said, for me the two words 'Europe' and 'referendum' can go together,

particularly if we really are proposing a change in how our country is

governed, but let us get the people a real choice first." Mr Cameron's

article in the newspaper comes after an EU summit called to tackle the Eurozone

crisis moved the bloc towards closer ties. After the meeting, he told reporters

he was not in favour of an in/out referendum leading some to believe he was

ruling out a popular vote altogether While

all talk on the working of the bank snow? You can trace the start of the crash back to the late

seventies when 'bankers' started to become salesmen. I would love to know how

many of today's bankers actually have a banking qualification. Driven by the greed

of the Thatcher eighties and allied to the financial deregulation of the

nineties introduced by that clown Brown, you have a recipe for disaster.

Performance related bonuses built on sales of products regardless of whether

the borrower could afford the loan. Greed drove the banking industry and nobody

wanted to stop it. Holy moly!!  Allied to Blaire taking us to war in the

nineties it was not a good decade and has been downhill ever since. Does anyone

else get the he bee gee bees reading the news that Blaire wants to return to

front line politics? He should be taken to The Hague to stand trial for crimes

against humanity. You can have as many

pieces of paper as you like telling people how clever you are. How good they

are at retaining information to pass a test. In fact, the more pieces of paper

someone has, the worse the situation becomes because, in the financial world,

none of it will lead to or provide an ethical basis on which to work.

Confidence

in the strength of the global economy is wavering Friday amidst new signs of an

economic slowdown. Now investors are heading for the exits. In the second

biggest stock market drop this year, the Dow Jones industrial average lost 251

points Thursday after new reports from the United States and China showing a

big slowdown in manufacturing Not only is manufacturing slowing down,

unemployment figures are at their highest level in nine months, and sales of

previously owned homes are falling. The dismal development comes only days

after the Federal Reserve slashed its estimates for U.S. economic growth,

promising action by the Feds if the economy slows any further. "We're

prepared to take further steps, if necessary, to promote sustainable growth and

recovery in the labour market," Federal Reserve Chairman Ben Bernanke

said. I thank you Firozali

A.Mulla DBA

 

 

alexshi
alexshi

Don't even think about it, first the possibility for RMB to be a rival international currency is far remote than that of Euro, and if you even think and raise this thing, you will suffer what  Euro has gone through, because it's foolish to challenge the dominant place of USA in the international community no matter militarily, economically, or it comes to the NBA....so what China should do now is just to empower it's people on top of enriching it's people only, befriend with more countries, to play a even more constructive role internationally, and wait until the tide comes again, because we Chinese once and for a long period of time did stand on the top of the tide ....

Julius Caesar
Julius Caesar

really ... 1.5B people ... all capitalists and you think that wouldn't challenge the dollar? U know... romantic thinking isn't very smart.

The US dollar, the Euro and the Yen will remain important currency, but there is a new kid on the block and he is not going away anytime soon.

Beside, with the level of debt the US faces, there is no way it will be able to maintain its military supremacy at this level for long. If China was to invest proportionally as much as the US does into military, in 20 years  from now,  the strongest military in the history of mankind wouldn't be speaking English ...

Look at reality, if the US does not start managing its economy in a smarter way, things will definitely be going South sometime soon ... China needs the US and vice versa. 

So quite romantically dreaming about the glory of the US and grow up 

alexshi
alexshi

yes, Uncle Sam is facing a lot of problems, but what we are facing and what facing other major powers are more daunting , my personal opionion is that we should not run head on into the competition with USA, insteading of focus on developing ourself first, then wait for the opportunity to come...sorry I do not think my opinion is romantic but really practical, unlike you Mr Conquer however under your "veni,vidi,vici"motto, your ture identity of a "WuMao" is apparent. You are not part of us the true normal and grass roots or use a cathy word the 99% percent for Chinese people , you are standing at the opposite side of a right trend leading up to a better future and a better life for future Chinese people...... And i do not appreciate your lecture style commend on my post, I get my own opinion which might not be right everytime, but absolotuely deserve the right to be heard...

Thank you Mr WuMao Julia