RMB to Swap?

China has made public announcements to overhaul the global monetary system. It questions the role of the US dollar as the reserve currency. Its officials have gone on record saying they want to move the global currency peg away from the dollar in favour of currency diversification as indicated by China’s push for OPEC to price oil in a basket of currencies, including the RMB, instead of US dollar.

There has been growing transactions using the RMB in China’s neigbouring countries in recent years. Today, the RMB is informally freely convertible in almost all countries bordering China. Since July, China has allowed Hong Kong and five mainland cities to settle cross-border trade in RMB.

The push for the regionalization of RMB appears to be gathering strength ahead of the scheduled launch of the China-Asean Free Trade Area (CAFTA) on January 1, 2010. There will be zero-tariff for 90% of the products traded between China and Asean countries and substantial opening in the service trade market.

At nearly US$2.3 trillion, China holds the largest official foreign exchange reserves of any country and surpassed Japan as the largest foreign holder of US debt. The effects of devaluation is no-trivial, especially as large increases to the US money supply and the impacts on purchasing power becomes a disconcerting issue for holders of large amounts of US-denominated assets such as US government bonds and treasury bills.

And since December 2008, the PBOC has signed six different official bilateral currency swap agreements worth RMB 650 billion in total. Currency swap agreements are two-way loans between central banks. This allows for bilateral trade to occur between two countries without a requirement to covert anything into US dollars as firms importing goods from China can then pay for them with RMB borrowed from domestic banks. Other countries working towards directly exchanging their own currencies in trade transactions with China rather than using the US dollar as an intermediary include Russia, Brazil, and Thailand.

China is making a great stride that scenario of the global currency of choice for resolving international trade settlements more plausible than it was even a year ago.