China: mega power with mini currency

18 May 2020

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China has been doing everything in its power for years to catch up with the United States as the biggest economy in the world. Chinese power is also increasing in the fields of international politics and technology. However, the renminbi is condemned to a position along the fringes of the forex world.

After weeks of bad economic news, we were finally greeted with some positive news a few days ago. More than 2 million cars were sold in China last April. This is a 4% increase in comparison to the same month one year ago. It is no coincidence that this economic windfall originated in China. Although the country was the first to be hit by the corona outbreak, the Chinese economy was also able to get back on its feet relatively quickly thanks to the strict measures that were taken there almost immediately. In addition to this, underlying prosperity in the country has been considerable for many years.

Emerging mega power
Even a trade war with the United States and the corona outbreak cannot prevent China’s influence – particularly in such areas as politics, technology and the economy – from growing in many ways. However, its position in the forex world is a notable exception in this. The renminbi is hardly of consequence here. According to research conducted by the BIS and the IMF, the currency’s share on the international forex market is only 4.3%. Actually, that picture is still too rosy, because you have to take into consideration the principle of double counting as two currencies are involved in each transaction. The dollar’s market share in this respect currently stands at 88.3% and the euro’s at 32.3%.

Significant role
A few years ago it looked as if the renminbi was about to start playing a significant role on the international stage. In 2016, the currency was still included in the IMF’s Special Drawing Rights. This had been mainly a symbolic move, as the importance of this currency basket was considerably undermined when the system of fixed exchange rates was abandoned. What remains stuck is the renminbi itself. The Chinese government only allows the currency to move in a narrow bandwidth around the US dollar. President Xi Jinping would like nothing more than to sever the link with the dollar. But that would mean that the renminbi would become a plaything of international trade flows, speculators and other forces.

Along the fringes of the forex world
This is not something that Jinping is keen for, as China is rapidly on the way to opening up equity and bond markets more and more to foreign capital. A strongly fluctuating currency could scare big foreign investors away. Moreover, the US is China’s most important trading partner by far. Although the country is switching from an export economy to a model that runs on internal consumption, it is still nice if exporting companies and foreign importers can count on a fairly stable currency. Although China yearns for an independent and strong currency, the renminbi will still be condemned to a role along the fringes of the forex world for the time being.

Joost Derks is a currency specialist at iBanFirst. He has over twenty years of experience in the forex world. This column reflects his personal opinion and is not intended as professional investment advice.

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