Using the Chinese Currency Can Help U.S. Companies Cut Costs and Grow [ By Prabhat Vira ]
For U.S. companies doing business with China, or competing for a share of its growth, the renminbi is now an effective way to settle trade, make investments and deepen relationships.
If that sounds like a bold claim for a controlled currency, consider how far China has opened itself to the world in just a short space of time. Trade between the U.S. and China has grown rapidly over recent decades, pulled forward by the twin locomotives of extraordinary Chinese domestic growth and increasingly transnational industrial assembly lines. HSBC research indicates that Chinese gross domestic product is set to increase by 8.6 percent in 2013, and next year China will add more to global growth than ever before.
Meanwhile, China has been loosening controls on the renminbi to establish it as a global trade currency and eventually a reserve currency. Today, according to HSBC research, about 10.5 percent of China’s trade—worth more than $400 billion—is settled in renminbi. HSBC expects that share to rise to more than 30 percent by 2015, or to about $2 trillion, as companies become increasingly aware of the potential benefits of invoicing and settling in the Chinese currency.
So what are the benefits and why should a U.S. company care about the renminbi?
Through a combination of renminbi trade settlement and foreign exchange hedging, companies may reap considerable savings.
In the past, Chinese suppliers have typically needed to add a buffer of between 1 and 3 percent to their quotes to hedge against unfavorable exchange rate movement before a trade settles. By settling in the Chinese supplier’s currency, U.S. businesses may be able to avoid this additional cost. In fact, an HSBC survey of Chinese companies involved in international business showed that 41 percent were willing to consider discounts of up to 3 percent on renminbi-denominated settlement, and 9 percent were willing to give even larger discounts.
So, if a U.S. company is importing from China, it can issue a renminbi-denominated letter of credit or other instrument, and its Chinese supplier no longer needs to add a foreign exchange premium to the price it quoted for the goods it’s selling. As a result, the U.S. company may be able to offer more competitive pricing when it resells those imported goods, or after it uses them to produce other goods.
Likewise, if a U.S. company is exporting to China, its ability to deal in renminbi may give it greater flexibility in meeting its Chinese buyer’s needs, and so greater opportunity to sell goods and services into the country.
Until recently, there was a perception that the renminbi was undervalued against the dollar and would only appreciate, making it relatively expensive to hedge. Now, however, the markets have moved closer to accepting that the currency is close to its long-term equilibrium value, making forward hedging significantly cheaper.
Global Footprint, Lower Funding Costs
Though the renminbi’s life as an international currency only began in 2009, its rapid development has been helped by decreased restrictions. Remaining restrictions focus on investment flows into and out of the capital account, rather than on trade.
But, here too, regulations are being relaxed. Between 2011 and 2012, the share of China’s inbound foreign direct investment conducted in renminbi leaped from 12 percent to 35 percent as multinationals recognized the benefits of centralizing their treasury operations offshore and using China’s currency for local capital injections. Now, developments in cash management regulations mean that investments in China can increasingly be treated as they would in any other market, allowing funds to be deployed efficiently and conveniently.
Hong Kong has played a leading role in the global expansion of the renminbi and is still the largest and best developed offshore market for hedging and credit products. But China is in the process of widening the network of clearing centers outside the mainland, encouraging the development of new markets. Taipei recently began accepting renminbi deposits, for example, while Beijing has appointed a clearing bank in Singapore and negotiations continue with London.
And just as its geographic footprint is growing, the renminbi’s functional reach is being extended as new, more flexible products are developed. Deliverable futures are now traded in both Hong Kong and Chicago, spurring the currency’s integration with the global financial system.
New Suppliers, New Consumers
By adopting the renminbi today, U.S. companies can build strong relationships with a wider network of Chinese partners. Because the renminbi is convenient for Chinese counterparts, U.S. importers who use it potentially open themselves up to a new layer of smaller Chinese suppliers who may prefer the ease of using their own currency, or who may be reluctant to take on dollar exposure because their cost base is denominated in renminbi.
What’s more, it may pay a relationship dividend for those looking to sell into China. Being an early adopter can help secure market share as competitors jostle for position in one of the world’s fastest-growing consumer markets.
HSBC research predicts that between now and 2050, the average Chinese worker’s income will increase seven-fold, from around $2,500 to around $18,000, giving some sense of the potential for growth this market holds.
In short, the evolution of the renminbi now represents an opportunity for U.S. companies to cut costs and improve financial flows in the supply chain. Ultimately, it may also be a way to start new business relationships and to tap a vast pool of aspiring customers. That’s no mean achievement for a currency still new on the international stage.