SWIFT and CIPS Sign Memorandum of Understanding
By JC Collins
Last October the China International Payment System (CIPS) went live. The initial phase of the CIPS platform included the direct participation of 19 banks, of which 9 were foreign institutions, and another 176 banks which were indirectly participating in this alternative to USD dominated SWIFT.
After the launch of CIPS a large volume of renminbi liquidity was released to off-shore markets. As a point of interest, if short-selling occurs, RMB funds could be limited to the off-shore market through the same CIPS platform. This is Important to understand as the Federal Reserve moves further along the path of monetary policy normalization.
A few years back we reviewed how CIPS would use the same base coding as SWIFT so that both systems could align further down the road. This past March the number of participating banks was quietly increased to 253 and a memorandum of understanding was signed between CIPS and SWIFT. The agreement set forth was that CIPS would directly connect with SWIFT in order access the full global user group which is available through SWIFT.
Once this agreement and connection is being fully realized the number of direct participants will increase well past the existing 253. This will push CIPS into becoming a mainstream and truly international platform for clearing and settling cross-border RMB payments.
Phase Two of CIPS will begin in the near future and will be more focused on the on-shore renminbi market, as well as plans to enhance international monetary and financial cooperation and coordination, which is the base framework for the multilateral system.
This broader use of CIPS and further monetary policy reform will also be coordinated with additional capital account liberalization and renminbi internationalization. Increased capital in-flows and connectivity to the on-shore RMB market will be facilitated by this deeper connectivity between CIPS and SWIFT and will establish the Phase Two mandate.
All of this will allow for broader and more meaningful exchange rate reform, which is gobbledygook for ending the US dollar peg which China has maintained in various alterations. This is descriptive of the process which I have previously mentioned regarding the incremental widening of the trading band as RMB liquidity increases internationally and as the Federal Reserve increases interest rates incrementally.
Such a process could see a potential mixed settlement with CIPS between USD and RMB, as both are used to rebalance the international monetary system. All of which will solidify CIPS has a reliable platform and allow for foreign participants and financial markets to directly interact with the Chinese on-shore market.
The complicated nature of this whole monetary transformation is best digested in small bites. All of the above has to happen in alignment with the monetary reforms taking place across a host of nations and economies. As stated above, the interest rate increases by the Federal Reserve will have to happen step-by-step with the internationalization of the renminbi.
The trading band between the USD and RMB can only be ended by incremental movements which are aligned with this internationalization. This widening of the trading band will work alongside alternative pegging mechanisms which China has established outside of the USD framework. Such a system exists in the form of a basket of currencies within the Bank for International Settlements.
This should be considered a safeguard against volatility caused by Fed rate increases and can be used within the CIPS settlement platform with non-USD payments from other nations.
The less influenced the Chinese on-shore and off-shore markets become to USD fluctuations the more flexible China will become on exchange rate reforms. As the exchange rate between the two becomes more and more irrelevant, the US monetary authorities will be able to increase rates further, allowing for the USD to depreciate through organic exchange rate reforms of its own. – JC