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China and the U.K. Find Common Ground in Promoting the Renminbi

Xi’s state visit promotes wider international use of the Chinese currency, and London aims to win the lion’s share of that business.

During his first state visit to the U.K., President Xi Jinping exchanged champagne toasts with Queen Elizabeth II, delivered a speech to the British Parliament and sealed a number of trade deals, including a major Chinese investment in a British nuclear power plant. But much of the Chinese leader’s most important business was financial, including a flurry of deals designed to foster the rise of the renminbi as an international currency — and make London the primary center for trading it.

“London is already the world’s largest foreign exchange market, and you can’t be the leading forex market and ignore a country that is already quite significant and growing very rapidly,” says Mark Boleat, policy and resources chairman at the City of London Corp., which is the governing body for the City’s square-mile financial district.

On October 20, the first full day of Xi’s four-day visit, the People’s Bank of China issued its first renminbi-denominated bonds outside of China and Hong Kong, a 5 billion yuan ($787 million) offering arranged by the Industrial and Commercial Bank of China and HSBC Holdings. Although other entities have issued offshore renminbi bonds, known as dim sum bonds, this was China’s first sovereign debt offering outside of Asia. The one-year bills carried a 3.1 percent interest rate, below an initial indication of 3.3 percent but above the 2.75 percent rate on comparable debt on the mainland.

In addition, China and Britain agreed to expand a currency swap line from 200 billion to 350 billion yuan, which will be used as a liquidity backstop to support the renminbi market in London and the growing use of the currency to finance trade deals.

The U.K. has moved aggressively to promote London as a leading offshore renminbi center, beginning with the establishment of the initial swap line two years ago. Last year the British government became the first Western country to issue bonds in the Chinese currency, selling 3 billion yuan of three-year bonds in the London market.

On the eve of Xi’s visit, CME Group signed a memorandum of understanding with China Construction Bank to enhance the liquidity of the London futures market. In May the Chicago-based exchange operator launched a derivatives exchange in London, dubbed CME Europe, that trades a renminbi futures contract, but that contract is currently settled in Hong Kong. Under the new arrangement, CCB will arrange settlement in London, beginning in December.

“When you’re settling everything in Hong Kong in the London time period, you’re losing money by having to put money up front, especially for American traders,” says Will Patrick, head of CME’s FX products in London. CME also offers a renminbi contract in the U.S. that is settled in Hong Kong.

Patrick said one of the advantages of the new deal is that the renminbi futures contract is centrally cleared, which mitigates counterparty risk. This is important for many traders because China has not yet joined CLS, the U.S. financial intermediary that settles foreign exchange trades and removes settlement risks, making spot renminbi trades more credit-intensive.

Darryl Hooker, co-head of EBS BrokerTec Markets, an online platform for trading foreign exchange and bonds, says one of London’s great appeals for traders globally is its time zone, which overlaps with those of Asia and the Americas. “Far and away the biggest trading in the renminbi is in the London crossover,” Hooker says, referring to the three-hour period from 7 to 10 a.m. London time and 3 to 6 p.m. Hong Kong time, when both markets are open. “We’re responsible for about 60 percent of the spot market in CNH,” he adds, using the designation for the offshore renminbi. The onshore renminbi, which cannot legally be traded outside of China, is labeled CNY.

“I think it’s China’s ambition to have London as its major trading center because it is where the bulk of euros, yen and Swiss francs are already traded,” Hooker says. “So it’s natural the renminbi will be heavily traded in London, and that’s something the Chinese are comfortable with.”

London already accounts for about 40 percent of global trade in foreign exchange, according to the Bank for International Settlements, and the embrace of the renminbi is designed maintain that leading position as international use of the Chinese currency expands. Five major Chinese banks now have operations in London, and two more are on their way to being established, according to the City of London’s Boleat.

According to the banking network SWIFT, the renminbi in August became the world’s fourth-largest payments currency, behind the dollar, euro and British pound. The Chinese currency overtook the Japanese yen and accounted for 2.79 percent of global payments that month. As recently as August 2012, it was a lowly 12th place in terms of global payments, SWIFT said.

The International Monetary Fund is expected to decide as early as November whether to include the renminbi in its Special Drawing Rights currency basket. Beijing has been opening up its financial markets and taking other measures, including a surprise shift in August in its method of calculating the renminbi’s daily fixing, to achieve SDR status and promote the unit as a world reserve currency.

The renminbi “is ticking all the right boxes to be included in the Special Drawing Rights,” Paul Mackel, head of Asia-Pacific FX research at HSBC in Hong Kong, wrote in a client note this week. Such a move would not have a big impact on central bank reserve holdings immediately, he added, but “confidence in the renminbi and, hence, voluntary reserve diversification flows into China could rise with endorsement of SDR inclusion.”

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