On January 4, the World Bank issued its first round of bonds denominated in China's currency, the yuan or renminbi, worth 500 million yuan ($76 million) with a two-year fixed rate due on January 14, 2013. The bonds offer investors a semi-annual coupon of 0.95 percent. The transaction comes at a time when China's shareholding in the World Bank is set to increase as part of the realignment of voting shares announced in April 2010. Mei Xinyu, an associate researcher at the Chinese Academy of International Trade and Economic Cooperation of the Ministry of Commerce, pointed out the significance of the World Bank's new move in an exclusive article to Beijing Review. Edited excerpts follow:
The World Bank's decision to issue 500 million yuan ($76 million) worth of yuan-denominated bonds in the Hong Kong capital markets comes as a pleasant surprise and is certainly the most significant financial event for China so far this year. It's a symbolic event in that the Chinese yuan, as a potential internationally accepted currency, has made an important step ahead in its internationalization efforts and that its potential influence in the international financial market is growing.
In 2008, the State Council decided to open pilot yuan settlement programs for commodity trade between the Yangtze River Delta region and Hong Kong and Macao special administrative regions, and trade between two Chinese regions—Guangxi Zhuang Autonomous Region and Yunnan Province—and the ASEAN. On April 8, 2009, the State Council decided to start a similar pilot program for cross-border trade in Shanghai and four cities of Guangdong Province—Guangzhou, Shenzhen, Zhuhai and Dongguan. Since then, the Chinese yuan has embarked on a cross-border settlement mission.
But one of the biggest challenges for yuan settlement in international transactions is people's expectation for strong yuan appreciation. Although this expectation spurs yuan accumulations, it also makes investors unwilling to sell their yuan assets. Under these circumstances, investors would rather use other "soft currencies" for settlement, which results in two phenomena: the wide acceptance of the yuan and the blocked use of the yuan as a settlement currency. Under this circumstance, developing an offshore renminbi bond market can not only open new channels for overseas enterprises and institutions to acquire yuan-denominated assets, but also provide overseas investors holding the yuan with high-yield yuan assets.
The development of the renminbi bond market also means a wider channel for the yuan's issuance. There are mainly three ways for an international currency's circulation from the issuing country to overseas markets: imports and exports (including commodity trade and service trade), overseas credit and loans, and overseas investment. Today, hundreds of thousands of yuan flows into the overseas market each year through private channels, such as travelers going abroad. Cross-border yuan settlement is also developing steadily, but overseas investment and credit currency needs to be strengthened. A major defect in overseas credit of the yuan in the international market is its heavy reliance on official channels. For instance, the Chinese central bank signed a series of currency-swap agreements with other countries. But commercial and private credit still lagged behind. This was reasonable at the beginning of the internationalization process, but we should not depend solely on this pattern. We should heavily promote broad commercial credit including bond financing to lay a solid foundation for its sustainable development and spread the risks that are now concentrated on the government. As a result, we should allow foreign governments, financial institutions and companies to issue renminbi bonds to enable more trading partners to use the Chinese currency as a payment method.
While the value of the World Bank's yuan-denominated bonds is relatively small, it marks the beginning of future issuances. The yuan's internationalization development is also reflected in the underwriter of the bonds. The World Bank chose HSBC Holdings Plc. instead of a Chinese financial institution.
Allowing the World Bank and other multinational institutions to issue renminbi bonds in the first place also shows the prudent manner China has adopted in yuan internationalization efforts. After all, information asymmetry is a natural problem in the financial market. It is a wise choice to start from a well-established international financial institution and from small-volume transactions to accumulate more experience.
The first few institutions entering the renminbi bond market include the Asian Development Bank, International Finance Corp., McDonald's, U.S. heavy equipment manufacturer Caterpillar Inc., the Russian JSC VTB Bank and the World Bank.
The World Bank has not said how it would use the money collected from issuing the bonds. From my point of view, the issuance only demonstrates the World Bank's interests in supporting the yuan's offshore market growth. The International Finance Corp., the financing organ of the World Bank, once planned to issue renminbi bonds in Hong Kong's capital markets to support development programs on the Chinese mainland. However, I think it may be better to use the money collected from the bond issuance for development programs in other countries, and those countries may use the fund to buy commodities and services they need. This could help stimulate the Chinese currency's internationalization progress.
Whether the foreign holders of the yuan can buy the commodities and services they need is the prerequisite for the yuan's internationalization. As the largest exporter in the world, China is capable of providing nearly any imaginable consumer goods to developing and developed countries. But an impending obstacle is domestic enterprises' inability to innovate and produce high-end manufacturing products to meet the growing needs of our trading partners. Since the production cycle of equipment manufacturing is long and complicated, the manufacturers always shoulder high risks of currency exchange rate volatility, which they hope to settle payments using the domestic currency. Ideally they would hope come true depends on the quality of the products they make—more buyers would choose to pay them in the yuan for the sake of their products.
Also, raising the voting power of emerging economies in the international financial system has become a hot topic, specifically in reference to wider use of the yuan. In April 2010 in a vote shift in the World Bank, China's voting power was raised from 2.77 percent to 4.42 percent, overtaking Germany, France and the United Kingdom to be the third largest shareholder of the World Bank, after only the United States and Japan. But its shares and voting power have little influence on the World Bank's decision-making processes. However, if the yuan is able to function as a source of financing, it won't be long before it's internationalized.