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Yearning for the Yuan

London is forging ahead with plans for yuan-based financial services by developing an infrastructure and banking services that match its ambitions for the Chinese currency.

On April 18, the city welcomed the first yuan-denominated bond issuance outside China’s sovereign territory: HSBC Holdings Plc issued about 2 billion yuan worth of bonds at a 3 percent interest rate. The placement was significantly oversubscribed.

A recent report by the City of London Corp., which oversees part of central London, said citywide yuan deposits stood at more than 109 billion yuan as of January 1 linked to corporate banking services. It predicted future growth in private banking as well as prime brokerage services for institutional investors.

Stuart Fraser, chairman of City of London’s Policy and Resources Committee, recently spoke with Caixin about the developments. He said London will cooperate with Hong Kong, where a deregulated yuan bond market got off the ground in 2010, to develop a global offshore yuan market.

Fraser described efforts to broaden and deepen London’s yuan businesses, and described the impact for Hong Kong and mainland China. Excerpts from the interview follow.

How significant is the recent yuan-denominated bond issuance in London?

It’s been oversubscribed, so that’s good news. It does show an appetite for it. But the level of knowledge about what is going to happen is very low. So we need to spread the message across not only the financial sector but also most importantly across the industry that uses it.

This is not designed simply as a financial product. This is an integral part of trade. And it will allow companies to be able trade much more easily in the yuan and reduce their currency exposures. We take it very much as a long-term market that will develop as China’s trade increases and also as China relaxes some of the restraints that are there at the moment. We take this very much as five- to 10-year-plus view.

To what extent do you think investors will be concerned about the fact that the yuan is not fully convertible yet?

It makes life a little more difficult, but it’s all right if you’re covering an existing trade situation. For the market to develop into what it could be, the currency has to be fully convertible. But there’s plenty of work and opportunity to do it before then. So we don’t see this factor inhibiting market in the short term.

Could you say more about what City of London will do to help build London into a Western hub for yuan business?

The first thing is to build liquidity. The second thing is to ensure that the structures in Hong Kong are compatible. These are the two keys. And the third leg is education. The understanding is low because there hasn’t been a market before, apart from the Hong Kong market. So there’s a huge educational program which will spread out from the international firms in London. We probably will need to talk about how we get, say, France, interested in this type of thing. This is a huge exercise of education, and it will take quite some time.

Yuan deposits in London are still quite limited compared with Hong Kong. How do you think it this develop?

I’d expect a huge increase to the deposit base here. Hong Kong’s got a probably ten times bigger deposit base, but it has been in the market for nearly eighteen months. Of course Hong Kong has significant advantages, being local to China and in the right region for other Asian countries. That first-mover-advantage geography will keep Hong Kong pretty well protected from any intense competition from London.

We view it as a partnership with Hong Kong. I don’t see that we’ll be taking business from Hong Kong. It is in the interest of everybody to grow this market globally and rapidly. Frankly, we think that London’s got a far better position to do that globally simply because of our location relative to Asia, our common language and rule of law. All of these things enabled HSBC to roll out a bond in a matter of days. The whole network is here in London.

Currently, the clearing and settlement for all yuan businesses is done in Hong Kong. Why?

At the moment, we do not believe that it requires a whole separate settlement system. This is why we’ve been using the Hong Kong settlement system. It’s an open question as to in future years where it would be. Hong Kong is high quality, has all the experience and the infrastructure. We can trade between Hong Kong and London with ease, with no barriers, so we don’t see that there’s any disadvantage there.

The growth of yuan deposits in Hong Kong slowed recently. How might this impact London’s yuan business, and what does it say about Beijing’s attitudes?

The slowing growth of the currency may feed the feeling that the currency isn’t very much undervalued. That was recognized by the increase in the political movement of the currency. I think this is probably why China wants to push this out rapidly because, in my opinion, the government feels that the big fear of a huge amount of hot money rushing into mainland China has probably gone away. It gives China a window of opportunity to expand the internationalization of its currency.

How would these changes affect China’s capital account convertibility?

It depends on how quickly the Chinese authorities would allow the feedback to go through. They appear to be moving rapidly forward by liberating cross-border investments. Residents in some regions have been allowed to invest overseas. They do realize that they need a convertible currency. You might argue, is it now, is it five or six years down the road? But the size of the Chinese economy and its place in the world can be an irresistible driving force.

Zhang Hong is Caixin’s London correspondent.

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From the Caixin Editors
The so-called “internationalization” of the yuan is at the top of the agenda for economic planners in the Chinese government. In a perfect world, some reason, the yuan would replace the U.S. dollar as the currency of choice for global trade. But long before that happens, the government wants the yuan to be widely used for trade settlements, bonds and other financial activities around the world. Broader acceptance of the currency would improve the positions of Chinese state-run companies and banks overseas. Hong Kong, with its mix of mainland and Western financing, is already a yuan “offshore” center. London recently became the second, prompting the following interview with a City of London official who responded to questions commonly asked in China.
By Zhang Hong