CH-US: renminbi-izing the dollar

14 October 2013

Economics

CH-US: renminbi-izing the dollar

DBS Group Research 14 October 2013

With no debt deal yet in sight, holders of US Treasuries have become increasingly upset with the brinkmanship in Washington Surely this is another reason for China to pursue a globalized RMB to protect the value of its $1.275trn of Treasury holdings? No. Chinas problems have more to do with its 20 years of current account surpluses than with whether its reserves are denominated in dollars or yuan Globalizing the RMB wont turn surplus into deficit. Renminbi-izing the dollar wont protect Chinas reserves There are good reasons for China to pursue a globalized RMB. Protecting its reserves from chaos in Washington is not one of them

With no deal on the US budget / debt limit in sight, holders of US Treasuries are becoming increasingly upset with the brinkmanship in Washington. The standoff has reportedly made Chinese officials all the more determined to push forward with globalization of the renminbi as means to lessen Chinas reliance on the dollar and protect its reserves from a fall in the dollar and/or the value of Treasuries themselves. China holds US$1.28trn of Treasuries it doesnt want chaos in Washington to blow a hole in any of it. If only the renminbi was globalized. If only its reserves were denominated in yuan instead of dollars. That would solve everything wouldnt it? In fact, no. It wouldnt solve anything. Chinas problem has more to do with its 20 years of trade and current account surpluses than it does with whether the claims it has amassed are denominated in dollars or yuan.
US foreign holdings of US Treasuries

China and Japan are the worlds largest foreign holders of US Treasuries

USDbn, Sept 2013, private plus official 1,400 1,200 1,000 800 600 400 200 0 China Japan OPEC T'wan Belg UK HK Spore N'way Can India
258 1,277 1,135

186

168

157

120

82

75

66

59

David Carbon (65) 6878-9548 davidcarbon@dbs.com

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CH-US: renminbi-izing the dollar

14 October 2013

The easiest way to see this is to follow the buildup of Chinas Treasuries and a hypothetical attempt to redenominate them in local currency terms to renminbi-ize the dollar.

The buildup
China began running current account surpluses back in 1990 but only in 1998/99 did they start to become significant. In 2000, its cumulative surplus of the entire preceding decade amounted to a mere $120bn and it held $60bn of Treasuries. By 2007, these figures had grown 8-fold its cumulative current account surplus had risen to $1000bn, its Treasury holdings to $480bn. Since 2007, both have grown by another 2.5x. As of September 2013, Chinas surpluses since 1990 add up to some $2500bn and its UST holdings stand at $1280bn.

China has run current account surpluses for 23 years. They add up

The hypothetical swap

China becomes worried about all this dollar debt it wishes it were denominated in its own currency, the RMB, instead. Economic czar Li Keqiang packs up all the Treasuries into a suitcase and flies to Washington, where he meets Barrack Obama at the White House. Li explains his fears and asks Obama if he might take back all his Treasuries in exchange for new ones denominated in RMB. Obama graciously obliges but explains there is no need to issue new bonds he simply crosses out the $100 written at the top of each existing bond and scribbles in RMB 612 in its place, reflecting the prevailing exchange rate. With the stroke of a pen, Chinas Treasuries are now denominated in RMB. Its money is safe. The dollars dominance in global markets has fallen by $1275bn and the RMBs stature has risen by the same. Obama and Li adjourn to the Rose Garden where they have a dim sum lunch before Li heads home to Beijing. Of course Chinas money is no safer than before, as the parable continues. Six months go by and China has run into difficulty. Two banks have gone bust and Li needs to fill a hole. Rather than print new RMB, however, Li returns to Washington to cash in some of his RMB Treasuries.

Redenominating ones foreign reserves into local currency terms doesnt protect anything

Obama remains his gracious self. Hed like to help but theres one problem: China is still running surpluses, the US, deficits. Obama has even fewer RMB to offer Li today than six months earlier. In short, Chinas RMB-denominated Treasuries are utterly worthless. Unless, of course, Mr Li might accept dollars instead?

China current account surplus and US Treasury holdings

USD bn, cumulative CAS 2,500 2,000 1,500 US$1280 1,000 500 0 02 03 04 05 06 07 08 09 10 11 12 13 UST holdings cumulative current acct surplus US$2475

CH-US: renminbi-izing the dollar

14 October 2013

The bottom line

Plainly, Chinas problems have nothing to do with the dollars dominance in world markets and everything to do with Chinas current account surpluses. Globalizing the renminbi wont turn surplus into deficit. Renminbi-izing the dollar wont make Chinas foreign reserves any safer. At the end of the day the moral is a simple one: if you dont want credit risk, dont lend. The moral is a simple one: if you dont want credit risk, dont lend None of this is to say that prudent currency diversification wouldnt lower Chinas dollar risk. It would. Buying euros and yen and pounds would go a long way towards stabilizing the value of Chinas $3,500bn of foreign exchange reserves. But China is doing this already. Holdings of UST as a percentage of foreign reserves have remained a fairly steady 37%-38% since 2003. In this light, the dollar doesnt appear that dominant to begin with. Nor is this to say that globalizing the RMB wouldnt lower other kinds of risks that China, indeed the world, faces as regards the dollar. A credit crunch brought Asias foreign trade to a standstill in late-2008 the use of RMB for trade settlement might have prevented much of that trade collapse. A global RMB market could also help finance the vast expansion in Asian trade volumes expected over the coming decade. We estimate that Asias two-way trade will expand by $5trn-$6trn by 2020, an amount that surpasses the entire offshore dollar market by 40%-50% at present [1]. A globalized RMB may be necessary to take some of the burden off the dollar [2]. Bottom line? There are good reasons for China to want to globalize the RMB. Protecting the value of its foreign reserves from chaos in Washington, however, is not one of them.
China US Treasury holdings as % of foreign reserves
percent 45 40 35 30 25 20 02 03 04 05 06 07 08 09 10 11 12 13 37%

Notes
[1] The BIS estimates the offshore dollar market at around $4.5 trn. See BIS Quarterly Review, June 2012. [2] For further detail, see A global RMB inventing the necessary, DBS Group Research, 11Mar13.

CH-US: renminbi-izing the dollar

14 October 2013

GDP & inflation forecasts

GDP growth, % YoY 2010
US Japan Eurozone Indonesia Malaysia Philippines Singapore Thailand Vietnam China Hong Kong Taiwan Korea India* 2.5 4.5 1.9 6.1 7.2 7.3 14.8 7.8 6.8 10.3 7.0 10.7 6.2 8.4

CPI inflation, % YoY 2014f

2.1 1.4 0.5 6.0 5.2 6.7 3.5 5.2 5.7 7.5 4.0 3.3 3.5 5.0

2011
1.8 -0.6 1.6 6.5 5.1 3.6 5.2 0.1 5.9 9.3 4.9 4.1 3.6 6.5

2012
2.8 2.0 -0.5 6.2 5.6 6.8 1.3 6.4 5.0 7.7 1.5 1.3 2.0 5.0

2013f
1.4 1.8 -0.4 5.8 4.3 7.0 2.9 4.0 5.3 7.5 3.5 2.6 2.8 4.3

2010
1.6 -0.7 1.6 5.1 1.7 3.8 2.8 3.3 9.2 3.3 2.4 1.0 2.9 9.6

2011
3.1 -0.3 2.7 5.4 3.2 4.8 5.2 3.8 18.6 5.4 5.3 1.4 4.0 8.9

2012
2.1 0.0 2.5 4.3 1.7 3.1 4.6 3.0 9.3 2.6 4.1 1.9 2.2 7.4

2013f
1.6 0.3 1.5 7.4 2.1 3.1 2.5 2.4 6.7 3.5 4.5 0.8 1.3 6.1

2014f
2.0 2.4 1.4 7.3 3.0 4.0 3.2 3.5 6.8 3.5 3.5 1.1 2.8 6.8

* India data & forecasts refer to fiscal years beginning April; inflation is WPI Source: CEIC and DBS Research

Policy & exchange rate forecasts

Policy interest rates, eop
current US Japan Eurozone Indonesia Malaysia Philippines Singapore Thailand Vietnam^ China* Hong Kong Taiwan Korea India 0.25 0.10 0.50 7.25 3.00 3.50 n.a. 2.50 7.00 6.00 n.a. 1.88 2.50 7.50 4Q13 0.25 0.10 0.50 7.25 3.00 3.50 n.a. 2.50 7.00 6.25 n.a. 1.88 2.50 7.75 1Q14 0.25 0.10 0.50 7.25 3.00 3.50 n.a. 2.50 7.00 6.25 n.a. 1.88 2.50 8.00 2Q14 0.25 0.10 0.50 7.25 3.00 3.75 n.a. 2.75 7.00 6.50 n.a. 2.00 2.75 8.00 3Q14 0.25 0.10 0.50 7.25 3.00 4.00 n.a. 3.00 7.00 6.50 n.a. 2.13 2.75 8.00 current 98.3 1.355 11,365 3.19 43.2 1.25 31.4 21,095 6.12 7.75 29.4 1073 61.1

Exchange rates, eop

4Q13 102 1.32 11,150 3.31 44.0 1.25 32.2 21,310 6.09 7.76 29.5 1075 64.1 1Q14 103 1.33 11,200 3.29 43.8 1.23 32.1 21,340 6.06 7.76 29.4 1070 64.4 2Q14 104 1.34 11,250 3.28 43.6 1.22 32.0 21,380 6.03 7.76 29.3 1065 64.8 3Q14 106 1.35 11,300 3.26 43.4 1.21 31.9 21,410 6.00 7.76 29.2 1060 65.1

^ prime rate; * 1-yr lending rate

Market prices
Policy rate Current (%) US Japan Eurozone Indonesia Malaysia Philippines Singapore Thailand China Hong Kong Taiwan Korea 0.25 0.10 0.50 7.25 3.00 3.50 Ccy policy 2.50 6.00 Ccy policy 1.88 2.50 7.50 10Y bond yield Current 1wk chg (%) (bps) 2.69 0.66 1.86 7.97 3.80 3.84 2.37 3.87 2.09 1.68 3.50 8.48 6 1 2 -14 8 -4 1 6 1 2 9 -2 FX Current 80.3 98.3 1.355 11365 3.19 43.1 1.246 31.4 6.12 7.75 29.4 1073 61.1 1wk chg (%) 0.5 -1.6 -0.2 0.1 0.1 -0.1 0.1 0.1 0.1 0.0 -0.1 -0.1 0.6 Index S&P 500 Topix Eurostoxx JCI KLCI PCI FSSTI SET S'hai Comp HSI TWSE Kospi Sensex Equities Current 1,703 1,197 2,778 4,520 1,786 6,490 3,180 1,458 2,228 23,218 8,349 2,025 20,529 1wk chg (%) 0.8 2.9 0.4 3.0 0.5 1.6 1.3 2.1 0.3 -0.1 1.4 3.1

India Source: Bloomberg

CH-US: renminbi-izing the dollar

14 October 2013

Recent Research
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