China is now officially part of the International Monetary Fund’s basket of reserve currencies.
Despite the fanfare, most commentators—including this publication—don’t think it’s a big deal.
Unless, of course, the IMF dramatically increases the use of the basket of Special Drawing Rights (SDRs), which will include the Chinese yuan as of Oct. 1, 2016, with a 10.92 percent weight.
The dollar (41.73 percent), euro (30.93 percent), pound (8.09 percent), and yen (8.33 percent) all lose some of their share to make room for the Chinese currency, with the euro losing the most and the dollar the least.
Very few officials have talked about how to increase the SDR’s role in the global financial system. But one who has is the rather important governor of the People’s Bank of China (PBOC), Zhou Xiaochuan. He is calling for nothing less than a new world reserve currency:
“Special consideration should be given to giving the SDR a greater role. The SDR has the features and potential to act as a super-sovereign reserve currency,” wrote Zhou.
In case you missed this statement, don’t worry. It’s from an essay in 2009 but outlines a clear path to achieve the goal of replacing the dollar as the world reserve currency. With China’s inclusion into the basket, Zhou has already achieved his first objective.
He wrote in 2009: “The basket of currencies forming the basis for SDR valuation should be expanded to include currencies of all major economies,” including China, he probably meant to say.
In his essay, Zhou went into great detail explaining how the SDR could become a reserve currency, and basically the backbone of the whole financial system, including the following steps.
- Use the SDR to settle global trade and financial transactions
- Promote the use of the SDR in commodity pricing, trade, investment and even corporate bookkeeping
- Create financial assets denominated in SDR
Right now, the SDR is merely a unit of account used by the IMF and its members. Instead, countries, individuals, and companies use individual currencies—mostly the dollar—in financial transactions.
Zhou doesn’t like the idea of having just one currency (the dollar) as a reserve currency. He wants “an international reserve currency that is disconnected from individual nations and is able to remain stable in the long run.”
Not News
People like James Rickards, author of “Currency Wars” and “The Death of Money“ have been tracking this development for some time.
“If you said to me, does China want to get rid of the dollar as the global reserve currency? The answer is yes. But most people think that they want the yuan. They don’t. It’s the SDR,” he told the Epoch Times in an exclusive interview.
“The United States is opposing it, but Christine Lagarde [the IMF managing director], is pushing very hard to increase the Chinese role. It’s a complicated global game,” he added.
Why?
Zhou said the new global SDR reserve currency could prevent financial crises like the Great Recession of 2008 and the IMF should manage it.
“The crisis again calls for creative reform of the existing international monetary system toward an international reserve currency with a stable value, rule-based issuance and manageable supply,” he wrote.
Rickards said if everything goes according to plan, the United States can do nothing against the IMF launching the next reserve currency. In fact, he said it has already accepted this path and is managing rather than obstructing it.
“According to its charter, the IMF is to function as the world’s central bank, a fact carefully disguised by nomenclature and by the pose of IMF officials as mere international bureaucrats dispensing dispassionate technical assistance to nations in need,” he wrote in “The Death of Money.”
In practice, this would mean creating a capital market for SDRs deep enough for companies and governments to use it. In addition, resources such as oil would need to be priced in SDRs, just like Zhou envisions.
Then the SDR could replace the dollar as the international reserve currency. Its price would be determined against a basket of international currencies including the Chinese yuan.
“The BRICS [Brazil, Russia, India, China and South Africa] and the Shanghai Cooperation Organization may have separate agendas in military and strategic affairs, but they are like-minded on the subjects of IMF voting rights, and they share an emerging antipathy to the dollar’s dominant role,” he wrote.
Of course, the real reason is for China to wrestle more power away from the United States. Not even Zhou can determine whether an IMF reserve currency would be more or less stable than the dollar. It’s a nice idea, but hasn’t been put into practice.
Voting Rights
The only thing China doesn’t yet have is significant voting rights at the IMF. Right now it only has 3.8 percent of the total votes, not enough to make a difference, at least officially. However, this may change soon as well.
“I think quotas are very dated. If you look at the share of quotas and you compare the share of quotas to the share of world GDP, you see that the quotas are reflecting GDP shares from an earlier era. Not just China, but emerging markets in general expanded their global presence,” said Harvard professor Carmen Reinhart.
The United States has 16.74 percent of the votes at the IMF. Because it holds more than 15 percent of, it can block any decision, giving it effective veto power. And it won’t give up that power anytime soon.
“That’s going to be a hard one. My inclination would be to say that’s still a ways away, but I do think that increased voting shares for emerging markets is part of catching up with reality,” said Reinhart.
On Dec 1, 2015, Chinese central bank officials didn’t quite state that they achieved the first step toward their ultimate goal.
But they did at least hint at it, “China will ... contribute to promoting world economic growth, safeguarding financial stability, and improving global economic governance.” Safeguarding financial stability with a new global reserve currency, that is.
