Ex-regulator plays down yuan reserve currency role

China has no ambition for the renminbi to become a reserve currency, according to one of the most important Chinese regulators and policymakers of the last 15 years.

“We never think about whether the renminbi will become a reserve currency of other countries,” Liu Mingkang, former head of the China Banking Regulatory Commission and President of Bank of China, said. “We haven’t got any such intention. It’s up to other central banks’ decision-making.”

The remarks may come as a surprise to the many western economists who believe it is a stated aim of China to achieve reserve currency status.

“The purpose we put the renminbi offshore is we have offshore trade and a lot of investment inwards and outwards, and nowadays we do encourage qualified investors who have the necessary knowledge of the rules and laws of their destination to go abroad,” Liu said.

“That’s why we want to put renminbi offshore. But if they [foreign central banks] want to pick up renminbi as an investment vehicle, it’s up to them.”

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Professor Liu, who spoke at London’s Cass Business School on Thursday, made his comments at a time when the internationalization of the renminbi (RMB) is gathering pace. By the end of 2012, the volume of international trade settled in the Chinese currency was more than RMB800 billion (US$130 billion).

He presented a mixed picture of the pros and cons for China of further liberalization. On the positive side, he suggested it would improve Chinese trade conditions, minimize foreign exchange risk for Chinese investors, lower financing costs, and assist the development of the domestic financial market.

But he warned that liberalization of the capital account – a necessary next step for further internationalization – would lead to an interest rate and exchange rate gap between onshore and offshore markets, “which will bring volatility to capital inflows and outflows. The fluctuation is nothing terrible, but if it’s huge fluctuations, we’ve got to think twice.”

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In particular, he voiced doubts about the ability of China’s domestic financial services sector to deal with the increased risks of a more international currency.

“A closer link between domestic and international markets requires better management skills on credit risk, market risk, liquidity risk, legal risk, reputation risk [and] counterparty risk,” he said.

“Nowadays we couldn’t say that any financial institutions in China are excellent in risk analysis and asset liability management on a consolidated or group-wide basis. So that is a huge mission for them, and a very big challenge.”

Liu, who is a professor at the Chinese University of Hong Kong, called for a rapid improvement in risk management capability “at all types of domestic firms, not only banks,” in a reference to insurers, securities companies and other intermediaries that have involved themselves in Chinese financial services.

“Comprehensive renminbi international and capital account liberalization should be the last step of financial sector reform, and should be consistent with the development of the financial market and evolving regulatory requirements,” he said. “We can never put the cart before the horse.”

He appeared negative about the outlook for Chinese bank profitability. “The fast pace of profit growing in banking and insurance firms might be disappearing,” he said. “We will say goodbye to that trend.” While using the word “might” rather than “will”, he forecast shrinking net interest margins and slowing deposit growth at Chinese banks.

Strategists took the view that whether China intends to have a reserve currency or not, it will inevitably get one.

“Technically, the renminbi already is a reserve currency,” said Simon Derrick, chief currency strategist at BNY Mellon. “QFII [qualified foreign institutional investors] allows countries like Japan to invest small parts of their reserves in renminbi. We’re going to get to that point, in the not too distant future, where we see China as a fully fledged member of the reserve community.”

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