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Is China’s currency experiment doomed to fail?

There are enormous challenges facing China as it seeks to develop the renminbi (RMB) into an international currency and ultimately one of the world's key reserve currencies, says a new Chatham House paper.

As the rhetoric on 'currency wars' heats up, China is aware that it needs to move eventually to a more flexible exchange rate regime and a fully convertible currency. 'One Currency, Two Systems': China's Renminbi Strategy by Dr Paola Subacchi assesses Beijing's route to internationalize its currency. It argues that what China is trying to do is unprecedented. Never before has there been an attempt to create an international fully convertible currency through a policy-driven process.

With no road map to guide the strategy, Beijing is well aware of the difficulties inherent in the internationalization of the RMB. This is why the People's Bank of China has been cautious in assessing the chances of its success and avoiding creating high expectations.

According to the paper, what makes the strategy particularly challenging and unpredictable is the presumption that the RMB can be made international without being made fully convertible. China's initial goal is to achieve currency internationalization under controlled convertibility. In order to do this Beijing is pursuing a two-track strategy: boosting cross-border usage of the RMB in trade settlements and making the RMB attractive by building an offshore market in Hong Kong for RMB-denominated assets.

Dr Subacchi writes that, 'A huge amount of credibility and soft power is needed to persuade non-residents and eventually other countries to rely on the RMB as a store of value rather than just as a vehicle for international transactions...Establishing credibility and an international reputation for the RMB, and making it acceptable in those parts of the world economy where the dollar dominates, will take years.'

The paper concludes by stressing that despite the challenges to the strategy there is ample scope for policy experimentation. Success will depend on a combination of well-designed policies and market forces, and on the role that China is playing, and aspires to play, in Asia.

Notes to Editors

Read One Currency, Two Systems: China's Renminbi Strategy >>

The briefing paper is by Dr Paola Subacchi, Research Director, International Economics, Chatham House.

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