Not that it will have an immediate impact on the value of private investors’ portfolios who have Chinese currency-based investments, but it’s historical that the IMF has finally approved China’s renminbi (RMB), also called the yuan, or CNY.
China's currency has definitively been accepted for being part of the IMF’s “exclusive” currency basket called “Special Drawing Rights” (XDR or SDR).
The SDR value is based on a basket of five key
currencies, which are reviewed by IMF every five years and which composition has now been established as: U.S. dollars ($) 41.73 percent, euros (€) 30.93 percent, Chinese yuan 10.92 percent, pounds sterling (£) 8.09 percent and Japanese yen (¥) 8.33 percent.
A legitimate question is what the CNY, now being part of the SDR, might mean for holdings of CNY in global FX reserve accounts in the years ahead?
Again, there is no immediate impact to be expected for the private investor, but indirectly, it’s also a fact that the “evolving/changing” compositions of global FX reserves are over the median- to long-term acceptable indicators of what the dominant currency players are, especially when one or other currency’s proportion in the total FX reserves is increasing or contracting at an accelerated pace.
When we take a quick look at the latest available IMF “Currency Composition of Official Foreign Exchange Reserves (COFER)”
numbers at the end of second quarter this year, the total value of foreign exchange reserve holdings was $11.459 trillion that were composed of 63.75 percent in USD or $6.666 trillion; 20.51 percent in the euros, 4.69 percent in British pounds; 3.83 percent in Japanese yen, which are all SDR basket members, and then, 1.92 percent in Canadian dollars; 1.9 percent in Australian dollars; 0.3 percent in Swiss francs and 3.11 percent in other non-specified currencies.
If we strip out China's FX reserves at the end of Q2, which stood at $3.649 trillion, that gives us a rather good picture of the allocation of 85 percent of the rest of the world's FX reserves at the end of Q2.
Compared to the 2010 setting of the IMF SDR we have now the USD accounting for 41.73 percent (previously 41.9 percent), the EUR 30.93 percent (previously 37.4 percent), the CNY 10.92 percent (new), JPY 8.33 percent (previously 9.4 percent) and GBP 8.09% (previously 11.3 percent).
For long-term investors there is probably a point that should better not be overlooked when we consider the new different currency weightings of the new SDR basket.
While the U.S. dollar and the Japanese have only been changed modestly by -0.17 and -1.07 percentage points respectively, the British pound’s and the euro’s parts of the basket have been lowered substantially by -3.21 and -6.47 percentage points respectively from where they stood in 2010.
No doubt, the reduction of the euro’s part of the new SDR composition may well reflect its reduced position within the global FX reserves that has gone down from 27.66 percent at the start of the eurozone to 20.51 percent at the end of Q2, which may hint to the declining international standing of the euro.
Please don’t read me wrong, I am not saying the euro is going to collapse or disappear.
It will remain the second reserve currency of the world for some time to come, but, if things don’t change for the better rather quickly and substantially in the eurozone we could, which doesn’t mean we will, see the Chinese currency CNY become the second reserve currency in the world within 5 to 10 years, which will have, in case that occurs, much broader impacts and consequences than many can imagine today.
All this doesn’t mean the Chinese currency will have an easy ride. The Chinese Vice-Finance Minister Zhu Guangyao has said China will not stop reforms now that the CNY is set to join the SDR but thinks a managed float best serves an economy in transition, adding one day the CNY will fully reflect market values.
Please take care, this very important sentence doesn’t imply, at least not for the moment, a stronger CNY.
We should not overlook the fact the Chinese currency is expected only to become fully free usable/tradable by October 1, 2016 and at present Chinese exports represent practically “nothing” in the country’s GDP growth. Therefore, we shouldn’t be surprised seeing a
lower CNY in 2016.
As for tomorrow’s ECB decision “to ease further or not to ease further,” I think Mr. Draghi has the green light to ease further now the just released industrial prices for October contracted further by -0.3 percent and are now below where they stood
mid-2008.
All that said and as far as the future global importance of the euro is concerned, maybe it is already “written in the stars.”