Boost for China as it joins IMF elite
The IMF on Monday gave a major vote of confidence to China and its reform efforts, giving the renminbi greater weighting than the yen or pound as it included the currency in its elite basket of reserve currencies.
The vote by the board to make the renminbi the fifth currency in the basket used to value the IMF’s own de facto currency followed months of deliberation at the fund and years of lobbying by a Beijing eager for the recognition.
“The Rmb’s elevation to the club of elite global reserve currencies is a big step for China and a significant one for the international monetary system,” said Eswar Prasad, professor of economics at Cornell University and a former IMF China mission chief.
The renminbi will become the third biggest currency in the “special drawing rights” basket when it takes effect on October 1. The move is largely symbolic but Christine Lagarde, IMF managing director, called it a “milestone” in China’s economic reform “journey” and its integration into the global financial system.
Following the move the currency slipped 0.19 per cent to Rmb6.4374 against the dollar in offshore trading in Hong Kong.
The People’s Bank of China set its daily “fix” — the onshore rate around which the currency can trade 2 per cent either side — at Rmb6.3973 per dollar, its fourth consecutive slightly weaker rate.
Investors generally expect China to allow its currency to weaken gradually but few see much likelihood of a repeat of its 3 per cent August devaluation, which sent shockwaves through global markets.
Paul Mackel, head of emerging markets FX research at HSBC, said SDR inclusion should encourage Beijing to allow the market to drive exchange-rate direction.
“In our view, this is more important than the SDR outcome itself and gauging whether FX policy is relaxing will be critical,” he added. The bank expects the currency to fall to Rmb6.5 against the dollar by year-end.
For China, the move is a validation of efforts over the past few years to liberalise financial markets and free up flows of funds into and out of China’s capital markets. In this regard, the IMF’s decision could strengthen the credibility of Beijing’s economic reformers against more conservative elements in the Xi Jinping administration.
“It is a historic moment in international finance for an emerging market economy, with a per capita income barely a quarter that of other reserve currency economies, to be anointed as the issuer of one of the world’s major reserve currencies,” said Prof Prasad.
But for the world’s financial system, the integration of China into the elite club of SDR currencies represents a significant challenge. The renminbi is the first emerging market currency to be included in the elite basket. But, beyond that, the existing SDR members are all western democracies with fully convertible currencies and open capital markets that are governed by the rule of law.
China is different in every aspect; a developing nation ruled by a Communist party that has striven to limit the convertibility of its currency and shelter its domestic capital markets from foreign capital and influence.
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Because of those differences and others, the IMF has been accused by some of bending its rules to include the renminbi in the SDR basket.
IMF officials deny any special treatment and say that China’s role in the global economy made it important to consider the renminbi. Importantly, Monday’s vote came with the backing of the US, the IMF’s largest shareholder, and major European members like France, the UK and Germany, all of which had expressed their support in the lead-up to the decision to include the renminbi.
IMF officials also insist the review was purely technical and that the two main criteria used to determine its entry remained constant.
China met the first of those criteria — that any country with a currency in the SDR basket have a major role in global trade — years ago. But in taking their decision on Monday the IMF’s shareholders also had to decide the Chinese currency was “freely usable” for fund transactions and that markets in both renminbi-denominated assets and the currency itself were big enough to absorb the sort of large transactions that countries make.
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The IMF also insists that China’s reforms have come a long way even in the last year as a result of the SDR review. Beijing, they point out, has liberalised the way interest rates are set and given the market a greater say in setting the daily trading band for the currency. It also has opened up its domestic markets to foreign central banks wanting to park reserves in renminbi-denominated assets.
“If you had asked me a year ago whether this would happen today I think I would have reserved judgment,” Ms Lagarde said. “Clearly an enormous amount of work has been undertaken by the Chinese authorities.”
Monday’s move marks the most significant change in the IMF’s basket since the euro replaced the Deutsche mark and the French franc in 1999.
  <img src="http://im.ft-static.com/content/images/d07f8623-7b12-4506-915b-b4bd1671d9e2.img" alt="Renminbi" width="600" height="338" /><img src="http://im.ft-static.com/content/images/3d44fea7-90bd-4bc3-a0a1-49fead34fbb8.img" alt="Renminbi" width="600" height="338" /><img src="http://im.ft-static.com/content/images/2bede1eb-d2e1-44a4-9429-eb081a278a36.img" alt="Renminbi" width="600" height="338" /><img src="http://im.ft-static.com/content/images/40517b49-3d2d-45c7-86e1-685c290888fa.img" alt="Renminbi" width="600" height="338" /><img src="http://im.ft-static.com/content/images/5d019af5-0c29-4088-b31a-0c1bbdba7994.img" alt="Renminbi" width="600" height="338" />
     
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Besides including the renminbi, the IMF board also voted to change the formula that determines the weight that currencies have in the SDR basket.
The new formula, IMF officials said, gives a greater weight to various financial variables such as a currency’s use in international transactions and a slightly lesser weight to a country’s role in international trade.
The new basket, which will take effect on October 1 next year, will see the US dollar remain the biggest currency with a 41.73 per cent weighting followed by the euro with 30.93 per cent. But with a 10.92 per cent share, the renminbi will trump the yen (8.33 per cent) and the pound sterling (8.09 per cent).
Those weightings also help determine the interest rates that the IMF charges for loans to members. Because China has higher interest rates than the other countries in the basket, Monday’s move is likely to lead to an, as of yet, undetermined increase in the fund’s lending rate, IMF officials said.
Additional reporting by Jennifer Hughes in Hong Kong
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