Merging the Chinese Markets

Economics, Premium POM4 Comments

Offshore and Onshore Strategies of RMB Internationalization (Plus a Note on Russia)

Let’s make a few things clear right out of the gate. China has no plans to make the renminbi the global reserve currency. The renminbi will never replace the dollar as the global reserve currency. China doesn’t want the renminbi to replace the dollar as the global reserve currency. America doesn’t want the dollar to stay as the dominant reserve currency. America wants to rebalance its global responsibilities with other nations and currencies. Both China and America have a lot to lose if some sort of understanding and agreement on the monetary policies and alignments which will lead to a rebalancing aren’t established. But America still has the greatest influence on how this can all play out.

These are facts which are often conveniently ignored by those selling a script based on a falsification of data, outright incompetence, and a complete lack of the fundamental knowledge required to accurately interpret, analyze, and repackage the information for everyday comprehension.

The mainstream sources laugh at the alternative media when it comes to its complete lack of understanding regarding monetary and financial matters involving the dollar and the renminbi. This is unfortunate because there are a lot of alternative writers and analysts out there who are doing a fantastic job at researching and presenting accurate information which stands the test of time.

When it comes to the dynamics between the worlds largest creditor nation, being China, and the worlds largest debtor nation, being America, the true nature of the relationship is often misunderstood.

Sure, China holds the largest amount of US debt outside of the Federal Reserve itself, but this is not an advantage to China. China, like Vietnam and other emerging nations, were in essence a dumping grounds for USD inflation. The fact that the People’s Bank of China had to expand its domestic money supply to purchase all of that American debt is seldom discussed or understood in its proper context.

Though contrary to popular opinion, global data is not tracked with 100% accuracy, we can get close enough to determine trends and make fairly accurate predictions based on the indicators. As an example, at the height of the financial crisis in 2008 the America debt-to-GDP ratio was 170%. This was an increase of 50% from the 1998 ratio of 120%. Since that time the debt-to-GDP ration has decreased to around 105%. It took ten years to add 50% and almost another ten years to decrease it by 70%. This shows that monetary changes take time to both implement and experience fundamental results.

As for China, in 2007 the debt-to-GDP ratio was 110% and now stands at 220%. It doubled in ten years and it will take another ten to adjust back to a comfortable level. This is the main monetary aspect which is misunderstood by most. It is all about the ability to manage the debt as opposed to the actual debt level. The fact that America shaved 65% of its debt-to-GDP ration in just under ten years should be promising to those who don’t feel sure about the information being presented from some sources.

Another area worth considering is the actual percentage of global payments in each currency. The USD makes up around 40% of all global payments. China, even though its percentage of global GDP is around 15%, makes up 2% of global payments denominated in renminbi.

America has around 25% of global GDP and its currency makes up around 40% of all global payments. As such, it is overrepresented. China has 15% of global GDP and its currency makes up 2% of global payments. As such, it is underrepresented.

We can add another number for China. It makes up around 30% of all global GDP growth. This is a strong number which would suggest that Beijing can crawl its way out from underneath the 220% debt-to-GDP ratio.

As a reminder, China now makes up 15% of global GDP. This number will increase because China also accounts for 30% of the global GDP growth which is taking place. The renminbi is only used in 2% of global payments which makes for a lot of movement in the years to come.

The internationalization of the renminbi is taking place on multiple levels. The increase of its use in global payments is just one area. The expansion of RMB through the offshore market is being managed through the Hong Kong portal. It provides the opportunity for China to create RMB denominated financial products and promote internationalization while protecting the onshore markets which would be more exposed to foreign speculation and influence.

The offshore market will continue to develop, as we have discussed in previous posts, such as The Long-Anticipated Dollar Depreciation, and Biggest World Transformation Since the Napoleonic Wars. The monetary authorities in Beijing will be careful that they open the onshore markets at a pace which compliments the offshore market development.

As the renminbi gains more percentage of global payments, and its acceptance drives a broader RMB internationalization, such as the European Central Bank diversifying some reserves into RMB, a safety net will grow which will allow for a slow erosion of the protective wall which exists between the onshore and offshore markets.

As is stands now, the RMB would be fully exposed to manipulation and speculation if both markets were merged into one simple RMB market. Though this is the endgame for China, it has to be managed and implemented through an incremental process. The fact that their capital markets are over extended only compounds the problem.

This is where America has the upper hand. China holds so much US debt that it is more China’s problem than America’s. Plus, America still carries the biggest global monetary stick which it can use to poke and smack Beijing from afar. This is why I think the Trump Treasury may just push forward on a new exchange rate arrangement with its trading partners, especially China.

The existing dynamic gives America the negotiating advantage. This advantage will slowly disappear as the RMB percentage of global payments increases along with the percentage of global GDP. America cannot wait for those rebalances to take place. It will need to force aspects of the multilateral monetary transformation on its own terms.

In closing I want to mention something that is relevant to our ongoing series on Russia and the past alliances which have been maintained over thousands of years. Though accurate data is not available, it is estimated that the Russian debt-to-GDP ratio in the 1990’s was 100% or higher. By 1999 it was around 92%. This is low compared to most of the worlds indebted nations, but was high for Russia.

In 2008 the Russian ratio was 7% and has since increased again to about 17%. This is another of the fundamental reasons why Russia presents a threat to the international banking interests. Like each of us as individuals, the less debt we have the more control over our lives we retain.

Though I think the Russians are smart enough to avoid a trap, I would recommend that they take great care in managing the growing trade deals and monetary alliances they are making with China. As shown by both America and China, the debt-to-GDP ratio of any nation can increase dramatically in just a few short years. – JC

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4 Comments on “Merging the Chinese Markets”

  1. JC,
    So, how does the rest of the world economies fit into this transition? Specifically, Great Britain, Germany, Japan, India, Brazil, South Africa, etc. Are you suggesting that the US, China, Russia are the “tip of the spear” in the monetary transition and all other nations associated with them will either rise or fall as a result?

  2. Should the tension’s in the region (recently heating up in the South China Sea and following the US weapons deal with Taiwan and NK continuing with their missile program) be viewed as a distraction, or simply a means to increase business for the MIC, or is it possible that a confrontation could be manufactured to force through some of the less desirable aspects of the ongoing transition (not to mention enrich a few folk, pacify rogue regions, create infrastructure projects etc. in the process)?

  3. Going forward into these new financial structures and agreements, what will be the nature of the US dollar? Still a debt instrument or something new?

  4. “AIIB and IFC Sign ISDA Master Agreement to Expand Infrastructure Investments in Asia”

    “”This agreement facilitates AIIB’s ability to support our clients’ projects and help promote local currency bond issuance,” said Søren Elbech, Treasurer, AIIB. “Multilateral financial institutions, like AIIB and IFC, have a much larger risk bearing capacity, compared with private sector companies in the countries where we lend. It therefore makes a lot of sense for us to create financing solutions that significantly reduce our clients’ risk of losses from such currency risks.””

    “Nepal proposes AIIB issuing local currency bonds: official”

    “KATHMANDU – Nepal has proposed that the China-initiated Asian Infrastructure Investment Bank (AIIB) could issue currency bonds in Nepal to raise funds domestically to finance infrastructure projects in the country, a senior official of Nepal’s Finance Ministry said.”

    “TOKYO — With the Asian Infrastructure Investment Bank having just secured the highest possible rating from Moody’s Investors Service, the bank’s Danish director general treasurer said the China-backed multilateral lender can start issuing bonds, perhaps within several months.”

    Would this suggest that confidence in the AIIB is growing?

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