Internationalization of the Chinese Renminbi: 5 Key Opportunities & Risks
December 2, 2015
By Megan Seto, Associate at McInnes Cooper,
Robb Baird, former Lawyer at McInnes Cooper
On November 30, 2015 the International Monetary Fund (IMF) agreed to anoint the Chinese renminbi to its basket of reserve currencies effective October 1, 2016. The decision raises the renminbi to a select number of currencies – the dollar, euro, pound and yen – recognized as meeting the “freely usable” standard. This significant decision will continue to have long range implications in Canada for cross-border mergers and acquisitions, financing transactions, dispute resolution, international tax with transfer pricing, and also international trade. Here are five of the key opportunities and risks it presents. The renminbi is the official name in Mandarin; yuan is the unit of measuring the currency.
The decision to internationalize the renminbi marks roughly 10 years in China’s efforts towards international credibility as a stable currency, and comes five years after the last review of the renminbi in 2010. It’s the first change in the currency compensation of the “freely usable” standard since 1999 when the euro was included.
The purpose of an international currency should be a store of value, a medium of exchange, and also a unit of accounting for residents and non-residents. Currency when used for private purposes is used for currency substitution, bridging currency trading in foreign exchange markets, and used as a unit of account to denominating trade and financial transactions.
The addition of the renminbi will take effect on October 1, 2016, assigning the yuan a 10.92% weighting, according to the IMF’s November 30, 2015 news release.In comparison, the American dollar currently accounts for 41.9%, and will become 41.73%, of the basket.
Here are five of the key opportunities and risks the IMF’s decision to internationalize the Chinese renminbi could create:
- Reduced volatility. This summer was marked by volatility in Chinese markets. The IMF’s approval of the renminbi as a standard currency is an indication that reforms have been implemented in China, and will likely continue. For Canadian investors, this means that foreign trade and financial transactions will be less exposed to currency fluctuations and specifically, a greater reduction in exchange rate risks. Central banks will also follow the renminbi to measure its reserves. The internationalization of China’s currency effectively signals that China remains a relatively safe place for transactions, and that the renminbi is fully reliable and may be freely used. However, despite China’s efforts, the experience this past summer suggests that credibility will continue to be a perception challenge.
- Use of currency in transactions. The internationalization of the renminbi also means that more foreign trade and financial transactions will involve China’s currency. Transactions will also be settled, paid, and disputed in the yuan: exports from China will be invoiced and settled in the yuan and for Canadian importers, the yuan will now be the language of currency for manufacturers, infrastructure deals, and foreign investment from China.
- International tax. In the international tax context, the use of the yuan will also be subject to greater scrutiny in the context of foreign exchange and transfer-pricing planning and taxation authority disputes.
- International trade. It’s no secret that China remains eager to trade in an effort to spur growth and to stop recent decline. The internationalization of the renminbi is also part of China’s immediate plan for a massive 64 infrastructure project known as “One Belt, One Road.” Although China is not a party to the Trans-Pacific Partnership Agreement (TPP) trade agreement, local officials and financial observers have hinted that China is likely to sign on to it two years from the date most nations adopt the TPP. To learn more about the TPP, read McInnes Cooper’s: Trans-Pacific Partnership Agreement (TPP) Expands Export / Import Opportunities.
- Greater embedment of China in global economy. With these opportunities comes the risk that the renminbi will be more deeply integrated into the global economy, and with that, greater sensitivity should the renminbi suffer further volatility. The internationalization of the renminbi may also change centers of finance from western countries, to Singapore for example. Though the implications remain to be seen at this early state, one possibility is that countries and investors alike will have more choices about where to bank – and Chinese banks and the yuan may grow to rival North American banks and the dollar.
Please contact your McInnes Cooper lawyer or any member of our McInnes Cooper Cross-Border Team to discuss this topic or any other legal issue.
McInnes Cooper has prepared this document for information only; it is not intended to be legal advice. You should consult McInnes Cooper about your unique circumstances before acting on this information. McInnes Cooper excludes all liability for anything contained in this document and any use you make of it.
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