China's renminbi is maturing far quicker than most expected since the people's republic moved to internationalise the currency, but it has a long way to go before it unseats the US dollar as the world's preferred reserve currency, market experts have told an HSBC forum in Hong Kong.
HSBC group chief executive Stuart Gulliver, in a speech to the forum, said few commentators would have correctly predicted the swift advance of the renminbi (RMB) since China moved to internationalise it 2009.
"There is still some way to go before the RMB becomes convertible, but it already warrants a mention in the same breath as the dollar, the yen and the euro as one of the world's major currencies," Gulliver said.
HSBC expects the RMB to achieve full convertibility, whereby the political shackles on the currency are loosened, within two to three years.
This will mean bigger quotas for foreign investors under the various Qualified Foreign Institutional Investor schemes, freeing outward direct investment, easing rules on foreign ownership of banks, and lifting the ceiling on individual foreign exchange purchases.
As it stands, when buying or selling an asset in China investors need approval from the People's Bank of China to bring in the funds from overseas to buy the asset. When selling, the investor needs the approval of the central to take those funds overseas.
China is effectively trialling full RMB convertibility in the Shanghai Free Trade Zone where buying or selling assets within the Shanghai Free Trade Zone do not require approvals from the central bank. Last month, New Zealand and China agreed to allow direct trading of the two currencies, which means businesses no longer have to convert either currency into US dollars to complete a transaction. China has currency swap agreements with at least 20 central banks around the world.
The currency is already convertible for trade items and the proportion of China's trade that is settled in RMB has gone from 3 per cent in 2010 to 18 per cent now. The RMB is now the world's second most used currency in global trade finance after the US dollar, according to financial services company SWIFT, which monitors international currency flows.
Gulliver said the RMB's 2.5 per cent drop against the US dollar in recent months had shown the currency was no longer a one-way bet, and highlighted that it was at an important stage in its maturity.
HSBC's view is that for China to have a truly global currency as befitting the second largest economy, representing about 12 per cent of global domestic product and about 12 per cent of global world trade, the RMB must become fully convertible.
Eswar Prasad, a senior professor of trade policy at Cornell University and a former head of the China division at the International Monetary Fund, told the forum the RMB would improve its status as a reserve currency but that the US dollar's primacy would remain intact.
He agreed that the speed with which China had loosened its grip on the RMB had surprised many and Prasad said that with China's increasing wealth there was no question that the RMB would play an important role on the world's monetary landscape.
"But to my mind, the fundamental question still remains on the table: Will China be seen as a safe haven?
"I think that on the present institutional and political settings, my answer is no."
Prasad said the RMB would nevertheless continue to grow in stature as a reserve currency and one that central banks around the world would be comfortable holding.
"Everybody, let's face it, wants to be friends with China, and especially with countries who have strong trading relations with China it makes perfect sense to sign local bilateral currency agreements," he said.
Prasad noted that central banks were already holding RMB but China's sheer economic size would not make the RMB the world's number one currency because China needed a democratic system of government and an independent judicial system before it could achieve safe haven status.
"The future the RMB is as a reserve currency but not as a safe-haven currency," he said. "Unless China can match its economic and financial reforms with a broader set of political, institutional and legal reforms."
Beijing has been freeing up interest rates for foreign currency deposits, easing restrictions on cross border capital flows, and expanding programmes that give foreign investors access to China's markets.
As of March 17, the daily trading band for US dollar-renminbi spot rate was widened to plus or minus 2 per cent from plus or minus 1 per cent.
Gulliver said the next logical step would be to widen the band further, before making the move to a more managed float.
The currency has grown in acceptance around the world and now accounts for about 12 per cent of total deposits in the Hong Kong banking system, up from 1 per cent in 2008.
Beijing has made it clear that the process of renminbi convertibility would speed up.
"Yet, while some controls will likely remain, the full convertibility of renminbi will boost China's integration into the global system," HSBC said in a report. HSBC's Gulliver said there was no question that the recent budget deadlock in Washington had dented confidence in US treasuries as what he called the "risk-free lynchpin of global finance".
"While the dollar will not be displaced any time soon, the appetite for an alternative is arguably greater now than at any point since the 1970s."
A move away from the US dollar was already under way, Gulliver said.
"China is the world's largest consumer of fossil fuels and raw materials. It is only a matter of time before the renminbi challenges the dollar as the primary currency for commodity pricing," he said.
"As the RMB continues to increase in stature as a trade and investment currency, its appeal as a reserve currency will increase. That is not to say the RMB is on its way to usurp the dollar. In short or even in the medium term, it absolutely isn't."
• Jamie Gray travelled to Hong Kong courtesy of Cathay Pacific.