The IMF has said it will not decide what currencies to include in its global reserve basket for another nine months.
That is because of China, where the government recently devalued the yuan in what officials said was an attempt to make the currency “freely usable” – the criteria for inclusion in the global reserve basket that the IMF said China failed to make the grade.
The yuan is widely used to make payments, but – prior to the currency’s devaluation this month – daily price setting by the People’s Bank of China meant that it could not be traded at an unlimited quantity at a stable price.
This is problematic for the IMF, which issues loans to countries in currencies from its global basket. If one of those currencies cannot be traded indefinitely at the market rate, then lending it to a country in need is useless.
If Greece were given the €86 billion (Dh359.5bn) it needs in yuan, only to find that it could not trade its new cash injection at a non-punitive exchange rate, that would make the exercise pretty useless.
Currency markets don’t blink at transactions of that size priced in dollars – but central bank fixing and offshore trading mean that Chinese currency markets just might.
That is why the Chinese central bank’s decision to allow the yuan to float within a range set by the close of the previous day’s trading looks like progress. A freely-floating currency should curb offshore trading, where buyers and sellers guess the gap between the effective exchange rate and the actual exchange rate. That, in turn, should make the yuan easier to trade on liquid, official markets.
“The [IMF’s] extension would also allow users sufficient lead time to adjust in the event that a decision were to be taken to add a new currency to the SDR [special drawing rights, or supplementary foreign exchange reserve assets] basket”, the IMF said.
“An extension of nine months would also allow users to adjust to a potential changed basket composition should the executive board decide to include the RMB [the yuan].”
Translated, that means that the IMF will observe what happens in China over the next nine months.
There are a few reasons why elevating the yuan to a global reserve currency would be advantageous to China.
The US dollar’s role as a global reserve currency has shored up US Treasuries as safe investment havens. That makes international borrowing cheaper for the US, and means that the American government can spend less on interest payments.
It also pushes up the US exchange rate, as demand for dollar-denominated assets is higher than it would otherwise be.
A paper from McKinsey, which tries to measure these effects, argues that the benefit to the US has been marginal. In normal times, the benefit is worth between 0.3 and 0.5 per cent of GDP, while in times of financial crisis, the artificially strong dollar can cause more harm than good.
Scholars of international relations have argued that part of America’s “soft power” – its influence over other countries – comes from having the ubiquitous dollar in a role of prestige and status. Whatever the intangible effect of having Lebanese nationals preferring to use the US dollar instead of the Lebanese pound for transactions, the US probably benefits.
But countries do not get all these benefits just by joining the IMF’s global reserve system. These factors are mostly US-specific, as the dollar accounts for most of the global reserve currency bucket. Any benefit to China from the yuan’s inclusion would be much smaller.
That is why the least economic explanation might be best – China may just want Mao Zedong’s face to supplant those of Andrew Jackson and Benjamin Franklin.
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