Global Rebalancing Begins as China Opens Up Massive $9 Trillion Dollar Bond Market

Economics, Premium POM

The internationalization of the Chinese renminbi has been the foremost objective which needs to be realized in order for the rebalancing of the international monetary system to take place.  The plethora of policy adjustments and reforms to global institutions have all been building towards lower demand for USD denominated assets and increasing demand for RMB denominated assets.

Those working towards transforming and rebalancing the international monetary system have been managing in the direction of creating a framework which will be based on a multi-currency reserve system.  This system would utilize predominantly the USD and RMB to achieve this rebalancing, with other currencies taking up the responsibilities which come with minor reserve positions.

One of the core methods by which these objectives can be reached is by China opening up their massive $9 trillion dollar bond market to foreign investors.  This would create the dollar alternatives which will assist in shifting the wealth of the world.  This shift will free the USD up for some much needed devaluation.  It will also assist in stabilizing the renminbi and encouraging a much needed appreciation.

Most longtime readers will be well versed in this USD/RMB dynamic and how the rebalancing between both will encourage broader adjustments to the foreign exchange reserves and allow the Special Drawing Right (SDR) of the International Monetary Fund to begin its ascent as the international supra-sovereign reserve asset which will eventually replace all domestic national currency in the clearing of global trade.

Citigroup has already expressed their intent to buy into the Chinese bond market, and other major institutions are getting ready to announce their intentions.  The flood of capital which will flow into China will feed its domestic credit market and further force the transformation of the Chinese domestic economy from the exporting model to a consumption based model like the West. This is a part of China’s grand strategy to fill the ghost cities with millions of the rural population over the next decade as they create a middle class.

Investors from around the world will be interesting in diversifying their portfolios with renminbi denominated assets.  The devaluation of the dollar will be offset by this diversification and capital markets will continue to march forward with minor disruption.

China will also be implementing a trial bond market which connects the large foreign investor base in Hong Kong with the mainland.  This will serve as one of many conduits for capital inflows into China.  Beijing has always been very patient and strategic with the opening of its markets to foreign investors because it feared manipulation and sabotage from the West.

Recently Bloomberg Barclays became the first major index to include RMB bonds in its public offerings.  JPMorgan and others will be following throughout the next few months. Currently there is about $120 billion worth of foreign investment in the Chinese bond market.  With the changing market openness and index inclusions it can be expected that the capital inflows will start at a steady pace and pick up momentum throughout the year.

Now that the RMB has been added into the SDR basket composition alongside the dollar, yen, euro, and pound, we can expect that the SDR itself will begin to become a more attractive asset as the USD/RMB rebalancing proceeds.  China has already issued some SDR denominated bonds and I would suspect that other central banks, even the Federal Reserve, will follow in the coming years.

The geopolitical changes which will come about because of this monetary transformation are being dealt with now in real time as China and Trump work out the details of the South China Sea and the North Korean situation begins to unravel further. Waning economic influence means that the United States will have to enhance its military capabilities to ensure its interests are protected.  Though it already has the largest amount of military spending in the world the equipment and assets require a lot of upgrading and replacement.

Further internationalization of the RMB will continue to run parallel to a reduction in USD denominated financial instruments.  The process will take years with sudden and dramatic changes taking place to the exchange rate arrangements which tether it all together.

We have explored some of this in other posts as nations look for new anchors for their currencies.  The largest rebalancing will take place between the USD and the RMB, but there will be other areas of rebalancing between different nations which will need to take place.  The opening of the $9 trillion Chinese bond market is the beginning.  – JC

JC Collins can be contacted at jcollins@philosophyofmetrics.com

This article is copyrighted by POM Media©2017. As Premium content permission is not given to be copied and re-posted.