[Chinese policy makers, especially the more reformist-minded officials, recognized that China needs to do a lot of work to get its financial markets ready before the renminbi could become a prominent international currency. Of course, there is a lot of opposition to such reforms because the system worked well for a lot of politically and economically powerful people.]
By Carlos Tejada
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An employee of the
Industrial and Commercial Bank of China counting money
at one of the bank’s
branches in Shanghai. Credit Carlos Barria/Reuters
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China long kept a tight hold on its currency
as a way to control its economy and to help its factories sell their products
overseas. But China has grown in economic power and ambition, and the old
restrictions are not helping a country that hopes to call more of the world’s
financial shots.
In his new book, “Gaining Currency: The Rise
of the Renminbi,” Eswar S. Prasad describes how China’s view of its currency
has evolved, starting from the Han dynasty — China invented paper money, of
course — to today’s globally ambitious leadership. Mr. Prasad, a professor at
the Dyson School of Applied Economics and Management at Cornell University and
senior fellow at the Brookings Institution, was formerly head of the
International Monetary Fund’s China division. In an interview, he explained
China’s motivations, how money can be a back door to overhauling the country’s
financial system and why some people fear a financially powerful China.
Why is China reconsidering the role of its
currency?
China is increasing its dominance in the
world economy. But there was a sense that China wasn’t getting the respect that
it felt it deserved. One of the manifestations of that was that its currency
was not quite seen as an elite currency.
Chinese policy makers, especially the more
reformist-minded officials, recognized that China needs to do a lot of work to
get its financial markets ready before the renminbi could become a prominent
international currency. Of course, there is a lot of opposition to such reforms
because the system worked well for a lot of politically and economically
powerful people.
But I think there’s a logic to China’s
strategy. Opening up the capital account isn’t just about money, because China
doesn’t need money from abroad. But what comes with the money is very
important.
One example is where the Chinese government
brought in foreign strategic investors into its banks. In 2007, in particular,
there was concern that there was no improvement being undertaken in the
corporate and financial structure of the big state-owned banks. The idea was
that those foreign investors in the banks will have an incentive to bring with
them better corporate governance practices and better risk-management
practices. So all these sort of collective benefits that come with the capital
are what China wants.
The Chinese government prizes stability. Will
it give up control?
China represents a grand and fascinating
experiment in managing these two fundamentally contradictory impulses: trying
to let the markets work freely versus trying to maintain stability and control
in the market. We see that in a variety of contexts, and the currency is no
exception. The Chinese government would like the currency’s value to be more
market-determined because they see that as important in terms of increasing the
renminbi’s prominence.
They view the stability of the currency as an
important marker of their ability to manage the economy well. This is going to
create a number of stumbles and missteps in the future, and indeed it already
has.
Should the world be concerned about China’s
growing financial ambitions?
There is a positive view about this — that
having China become more engaged with the international community is a good
thing. Rather than saying that it is a developing country and should be handled
by different standards, China might recognize that ultimately having good rules
governing international trade and finance would be to its own benefit.
But I think there was also a fear that China
could end up parlaying its economic heft into a more strategic influence that
then feeds into its somewhat expansionist tendencies. In the past, and in fact
until fairly recently, China took a fairly brute-force approach, using its
economic clout to gain economic and political influence.
Now China has adopted what I think is a much
more savvy and disciplined approach to its international engagement. First,
it’s increasing its influence in existing international institutions, which
allow it to influence the rules of the game from the inside. Second, it is
setting up its own institutions like the A.I.I.B. [Asian Infrastructure
Investment Bank] that allow it to redefine the rules of the game from the
outside. Third, it is bringing lifelines to countries, and bringing them [other
countries] into its embrace by setting up institutions with them.
About three or four years ago, these
reformist-minded officials had a very important insight: If they could get the
Chinese people and leadership to sign on to making the renminbi a great global
currency, that could provide a very useful mechanism for getting around the
opposition and putting in place a lot of reforms. Ultimately it would be good
for China, no matter what happened to the currency.
I view this as a sort of Trojan horse
strategy.
Making the currency international requires
meeting requirements from foreign institutions like the I.M.F. At the same
time, China is increasingly wary of what it calls “Western influences.” Can
those external pressures still help China overhaul its financial system?
These serve a very positive role, but they
must come from the right sources in the right fashion. When the U.S. Treasury
or the I.M.F. tells China to allow its currency to appreciate, that is seen as
something that is not necessarily in China’s best interest.
When it comes to matters where the West has
some sort of prize to offer, that changes the dynamic. We’ve seen some examples
of that over the last year and a half. When China decided it wanted to get the
renminbi into the I.M.F.’s elite basket of currencies, it felt that this would
be a great way of getting more prestige for its currency in one fell swoop. The
I.M.F. and China came together and decided on a checklist of things that China
needed to accomplish over the next year. That checklist turned out to be very
useful particularly for the People’s Bank of China [China’s central bank] in
pushing out its reforms.
After the 2008 financial crisis, the United
States pumped money into its financial system, which in effect lowered the
value of China’s vast holdings of American debt. How has that affected China’s
ambitions for its currency?
It is a matter of enormous frustration for
China that the U.S. has such a dominant role in global finance. Because of its
old policies, China has become even more vulnerable to U.S. policy, especially
monetary policy.
Chinese are net creditors to the rest of the
world. That is, the world owes China a lot more than China owes to the world.
But the net income that China’s earning — the amount paid by foreign investors
minus the amount it pays out to foreign investors — is in fact negative.
Foreign investors get pretty good returns in China. But China, because most of
its foreign assets are in the form of U.S. Treasuries and the government
securities of other advanced economies, is earning piddling rates of return.
The fact that the U.S. dollar is so dominant
in global finance, and also that the architecture of global finance is
controlled by the U.S. and the Western economies, frustrates the Chinese. I
think the Chinese feel that the system is stacked against them.
Many foreign economists say China should
loosen its grip on its financial system — opening the capital account, as
policy wonks call it. But you quote one respected Chinese voice, Justin Lin
Yifu, criticizing that view. How prevalent is that opposition?
It is surprisingly prevalent even among
Chinese economists who are pro-reform. There is a good reason for that: If one
takes economic theory and the practical experience of emerging market countries
into consideration, China is doing it exactly the wrong way.
The right way to do it is to make domestic
financial markets more sound, improve regulatory frameworks and make the
exchange rate more flexible so that it can act as a shock absorber. Then you
can open up the capital account.
China is very effectively gaining what I like
to think of as a multilateral sheen for its effort to build closer economic
relationships with other countries.
At a time when the political rhetoric in the
U.S. is about disengaging and questioning traditional lines both economic and
political, I think China stands ready to fill in the void. That is not
intrinsically a bad thing. But we have to remember many of the values the U.S.
in particular has fought for, or tried to expand, like supporting democratic
forms of government, by-and-large free markets, freedom of expression and so
on. All those are anathema to China.
Follow Carlos Tejada on Twitter @CRTejada.