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FM AMEMBASSY BEIJING
TO RUEHC/SECSTATE WASHDC 8051
INFO RUEATRS/DEPT OF TREASURY WASHINGTON DC
RUCPDOC/DEPT OF COMMERCE WASHDC
RUEHOO/CHINA POSTS COLLECTIVE
RHEHNSC/NSC WASHDC

UNCLAS SECTION 01 OF 04 BEIJING 000350 
 
C O R R E C T E D  C O P Y - (PAR 1 AND 2) 
 
SIPDIS 
SENSITIVE 
 
STATE FOR E, EAP/CM, EEB/OMA 
TREASURY FOR OASIA/DOHNER, WINSHIP 
 
E.O. 12958: N/A 
TAGS: ECON EINV EFIN CH
SUBJECT: China/RMB Internationalization: Some 
Progress, But Going Slow 
 
REF: A) 09 Beijing 01176 B) Beijing 00147 C) 09 
Guangzhou 000397 D) Shanghai 00015 E) NYFED Internal 
FR 10/19/09 E) 09 HK 708, 1104, 1280, 1667 
 
BEIJING 00000350  001.3 OF 004 
 
 
¶1. (SBU) Summary. Hong-Kong-based HSBC bank last 
week announced it had issued the first Renminbi-denominated 
letter of credit in which none of the trading parties involved came 
from mainland China.  The move was the latest step 
towards Beijing's stated goal of establishing the 
Renminbi (RMB) as an internationally-accepted 
currency for financial and trade settlements and, 
eventually, achieving global reserve status.  Over 
the last three years, China has implemented a series 
of programs to increase international use of the RMB, 
although as yet these initiatives are still 
extremely limited and under-utilized.  The tentative 
nature of China's moves has inspired some 
commentators to question Beijing's commitment to 
undertake the systemic foreign exchange and 
financial system reforms necessary to make the RMB 
an attractive or practical international currency. 
Although many senior Chinese officials believe the 
Renminbi eventually should become a key 
international currency, commensurate with the 
country's status as the world's (soon-to-be) second 
largest economy and largest goods exporter, this 
conviction is far from universal.  Virtually all 
observers expect the PRC Government to move 
gradually and carefully toward internationalization 
of the RMB, but most expect the process to take many 
years.  End Summary. 
 
First (Baby) Steps 
------------------ 
 
¶2. (U) On February 3, HSBC Malaysia issued the first 
RMB-denominated letter of credit involving both a 
bank, importers, and exporters all outside of mainland China. 
Last week's groundbreaking transaction followed 
HSBC's similarly novel transactions in 2009, when it 
became the first foreign bank to execute a RMB trade 
settlement in Malaysia.  Subsequently, the firm 
conducted similar arrangements in Hong Kong, Brunei, 
Indonesia, Singapore, Thailand, the Philippines and 
Vietnam, all in partnership with the Mainland's Bank 
of Communications (BoCom). 
 
¶3. (SBU) HSBC's moves were possible because of the 
Chinese government's announced policy to increase 
the use of the RMB in international transactions, 
with the stated goal of making the RMB an 
international reserve currency.  In this vein, over 
the last several years Beijing has approved several 
reforms and pilot programs aimed at increasing the 
number of RMB-denominated financial tools and 
providing RMB to a few actors to use in 
international settlements.  For example, in 2007 
Beijing began allowing a few select Mainland (and 
later Hong Kong) banks to issue RMB-denominated 
"panda" bonds in order to both allow institutions to 
raise money in RMB and to provide some tradable RMB 
financial tools.  In late-2008 and early-2009, 
Beijing signed currency swap agreements worth USD 
124 billion with Malaysia, South Korea, Belarus, 
Indonesia, Argentina, and Hong Kong.  In theory 
these swaps could allow central banks to hold RMB, 
and could push RMB out of China should traders wish 
to settle their transactions in PRC currency. 
 
¶4. (SBU) Under a pilot program begun in July 2009, a 
select group of 400 Chinese companies were allowed 
to price their exports in RMB.  Transactions were 
permitted to take place through accounts established 
in Hong Kong and five selected mainland cities 
(Shanghai, Shenzhen, Guangzhou, Zhuhai and Dongguan). 
Another pilot project covers trade between the ten 
Association of Southeast Nations (ASEAN) member 
countries and Yunnan and Guangxi Provinces.  These 
trade settlement programs were intended to increase 
the presence of RMB in the Hong Kong banking system 
by up to USD 70 billion in the first year, and also 
to create demand for more RMB-denominated financial 
products.  Providing more of those financial 
products, the first Chinese government bond sale 
outside the mainland occurred in Hong Kong in 
 
BEIJING 00000350  002.2 OF 004 
 
 
September 2009, when China's Ministry of Finance 
officially launched the sale of RMB 6 billion (USD 
879 million) worth of sovereign bonds. 
 
Limited Progress 
---------------- 
 
¶5. (SBU) China's initial efforts at RMB 
internationalization have not been an unmitigated 
success.  The Chinese currency is still rarely used 
in global foreign exchange markets and almost no 
global foreign exchange reserves are held in RMB, 
primarily because the currency is only partially 
convertible.  Thus far there has been less usage of 
the RMB-denominated trade settlement agreements and 
interest in the bond issues than was expected (REF 
C). 
 
¶6. (SBU) A Chinese economist explained to Econoffs 
that the amounts involved in the trade settlement 
agreements and bond issues were "miniscule" compared 
to overall trade numbers and the size of the Hong 
Kong capital market.  A Hong Kong-based HSBC analyst 
agreed that the "take-up has been very low" and that 
there was a "high degree of stage management" at the 
launch of a trade settlement pilot project in Hong 
Kong earlier this year.  He claimed that some of the 
corporations listed in the scheme were not in fact 
participating, and other corporate executives 
admitted that they were participating purely for 
political reasons and had no business interest in 
the project.  Banking contacts have explained that 
foreign traders are reluctant to denominate in RMB 
since they cannot hedge their currency risk (due to 
the lack of a liquid, transparent market for Chinese 
RMB forwards or exchange rate swaps) and the system 
is still not user-friendly (REF D). 
 
¶7. (SBU) Regarding the bilateral swap agreement, 
hailed by Beijing as a step toward ensuring greater 
use of the RMB in international commerce, Embassy 
contacts generally dismissed the swaps as "mostly 
window dressing."  A Chinese banker said the swaps 
were set up to show Asian countries that the RMB 
could be a regional currency.  But a local Chinese 
economist working for a foreign bank told Econoffs 
that the swaps did little to advance RMB 
internationalization, adding that they were designed 
to operate more like an emergency credit line and 
"in fact were not used extensively." 
 
Questioning Beijing's Intentions 
-------------------------------- 
 
¶8. (SBU) Beijing's slow pace in implementing the 
reforms necessary for RMB internationalization has 
led to criticisms that the government is not serious 
about the goal of establishing the RMB as an 
international reserve currency.  The HSBC analyst 
explained that Beijing is "playing a cute game," 
positing that if China had really wanted to 
internationalize the currency it could have done so 
by now.  Importantly, he opined that Beijing would 
like to become more "globally relevant without 
taking on any risks."  Put another way, one Bank of 
China economist said the difficulty centered on the 
fact that China wanted to promote full 
convertibility, but also wanted stability, so full 
internationalization was "not yet possible."  The 
local Chinese economist working for a foreign bank 
was less critical, noting that "they have to start 
somewhere."  She argued that while, at the moment, 
the rules on trade settlement and bond issuance were 
very strict, Beijing was working to loosen them, 
which would increase participation. 
 
¶9. (SBU) In part, the Chinese go-slow approach to 
RMB internationalization reflects Beijing's 
preference to proceed cautiously when it comes to 
any major financial reforms.  However, it also 
represents an on-going debate among policymakers on 
the wisdom of moving forward quickly towards full 
use of the RMB in international transactions. 
 
RMB-Boosters 
 
BEIJING 00000350  003.3 OF 004 
 
 
------------ 
 
¶10. (SBU) Some of those pressing most strongly for a 
greater role for the RMB are concerned about hedging 
dollar risk.  Former PBOC Vice Governor Wu Xiaoling 
said at the annual Caijing magazine conference on 
December 18, 2009 that the RMB should play a role in 
building a multi-reserve currency system to cushion 
U.S. dollar fluctuation risk.   The recent rapid 
growth of the U.S. fiscal deficit has -- regardless 
of the reality -- reduced Beijing's confidence in 
the stability of the dollar and the value of dollar- 
denominated assets, which are estimated to 
constitute about two-thirds of China's USD 2.4 
trillion of foreign exchange reserves.  The Chinese 
economist told Econoff that "one of the main motives 
behind the [RMB internationalization] initiative is 
the weakening dollar, which is under threat from 
structural problems in the United States."  She 
explained that by conducting trade using RMB, China 
would hope to reduce dollar and foreign exchange 
accumulation.  RMB-denominated trading, the argument 
continues, also would somewhat insulate Chinese 
exporters from foreign currency volatility. 
(Comment: These arguments are somewhat specious from 
an economic standpoint.  In many cases the popular 
arguments for RMB internationalization belie a 
limited understanding of the economics underpinning 
the process.  China will continue to acquire foreign 
reserves as long as it runs a large surplus, and 
exporters will still always assume foreign currency 
risk in terms of fluctuating prices if not 
fluctuating exchange rates.   Comment.) 
 
¶11. (SBU) Beyond these relatively direct, if not 
entirely practical, considerations, other supporters 
of RMB internationalization are clearly looking for 
"soft power" gains in political, economic, and 
financial global fora.  This view is widespread in 
China: as Chairman Li Jiange of China International 
Capital Corporation (CICC), a major Chinese 
investment bank, recently asserted in a public 
speech: "I believe it is a historical responsibility 
for China to have a bigger voice globally."  Former 
Hong Kong Monetary Authority CE Joseph Yam and 
current PBOC advisor has called for the RMB to 
become a "third pillar" of the global monetary 
system.  Speaking privately, senior Chinese 
officials have noted that the RMB could become a 
component of the IMF's Special Drawing Rights Basket, 
but for symbolic, political reasons rather than a 
practical reflection of the RMB's 
internationalization (REF A).  The position that the 
Chinese currency eventually should become a key 
international currency, commensurate with China's 
rapidly expanding political and economic clout is 
widely popular, and frequently supported by popular 
commentators and netizens. 
 
¶12. (SBU) Still another group advocating RMB 
internationalization hopes to leverage this popular 
support for RMB internationalization into larger 
(and less-popular) financial and foreign exchange 
reforms.  The managing director of a major Chinese 
investment bank said that RMB internationalization 
would serve China, because reformers could use it to 
further economic reform.  He claimed every decade 
needs a popular objective to drive reform: in the 
70s, it was land reform; in the 80s, opening to 
foreign investment; in the 90s, preparation for WTO 
accession; now, RMB could play this role.  Likewise, 
a well-known Chinese pundit at the Chinese Academy 
of Social Sciences (CASS) has actively promoted RMB 
internationalization, because in order to achieve 
such global status China must fundamentally reform 
its foreign exchange and financial systems. 
 
Verses the Go-Slow Club 
----------------------- 
 
¶13. (SBU) In fact, one of the major reasons for the 
slow pace of RMB internationalization is the need 
for -- and opposition to -- such systemic reforms 
(see REF E for a full explanation of the required 
changes).  Beijing has made no secret of its desire 
 
BEIJING 00000350  004.2 OF 004 
 
 
to proceed deliberately.  Premier Wen Jiabao said at 
the September 2009 World Economic Forum in Dalian, 
China that China had made "progress in the RMB's 
internationalization, yet it would take quite some 
time before the RMB truly became an international 
currency."  Likewise, Li Yang of Chinese Academy of 
Social Sciences (CASS) told Econoffs that the RMB 
internationalization process would be very long, 
with the government's steps of the past year (e.g. 
use of RMB for cross-border settlement, currency 
swaps) just the start. 
 
¶14. (SBU) The requirement for a more flexible 
exchange rate system, and thus significant exchange 
rate appreciation, faces significant opposition. 
The RMB effectively has been pegged to the U.S. 
dollar for the past year and a half; resumption of 
the appreciation, either through a one-off 
adjustment or use of a more flexible exchange rate 
mechanism, would be opposed by various power bases 
in China, including most of the economic ministries, 
provincial and local governments, and export 
industries fearful of losing price competitiveness 
due to currency appreciation (REF B). 
 
¶15. (SBU) Further, for the RMB to become truly 
international China also would need to open and 
develop its capital markets.  Not only would this 
imply a significant loss of government control over 
the economy, but without a flexible exchange rate 
regime it could generate capital flows that would 
likely disrupt domestic financial conditions and 
hinder the PBOC's ability to conduct monetary policy. 
In recent times, China has been able to intervene 
and address this problem through sterilization, at a 
large and rising cost.  In the future, when those 
costs would eventually become prohibitive the 
central bank would be forced to choose between 
currency appreciation and domestic inflation. 
Underlying all of this is the fact that foreign 
investors would not want RMB unless there were 
financial products in which they could invest, and 
traders settling transactions in RMB would want to 
be able to hedge their foreign exchange risk. 
 
So What is the Plan? 
-------------------- 
 
¶16. (SBU) Looking forward, the Chinese economist 
asserted that "it is not clear that there is a 
coherent strategy or even a coherent idea of what is 
meant by internationalization."  The CASS professor 
agreed that, at the moment "there is no plan" for 
RMB internationalization.  There may be, however, an 
informal "academic and governmental consensus" on 
several possible alternatives for the future which 
the government is pursuing simultaneously.  A 
foreign academic noted that even if China was not 
sure yet what it wanted, "by simply bringing up 
various ideas, China was setting up the global 
agenda and debate." 
 
¶17. (SBU) Without a plan, virtually all observers 
expect the Chinese Government to move gradually and 
carefully toward internationalization of the RMB.  A 
convertible RMB and flexible exchange rate would 
come first, but not for perhaps 5-10 years.  Open 
capital markets would also take at least 10 years. 
But some are even more conservative: when asked to 
provide a time line for RMB internationalization, 
the professor answered: "maybe in my lifetime" (he 
is 61).  In all likelihood, the sophisticated 
financial market, improved infrastructure, adequate 
supervision and transparency required for RMB 
reserve status is decades in the future. 
 
HUNTSMAN