Since 2000, China’s GDP grew from just under US$1.2 trillion to just under $7.3 trillion in 2011. In the process it has become the EU’s second largest trading partner (from US$100 billion to US$600 billion in trade between 2001 and 2011). No wonder the “Cities of Opportunity” study released earlier this month by PriceWaterhouseCoopers and the Partnership for New York City found Beijing and Shanghai rising to top-five status among global leading cities in the categories of economic clout and city gateway.
But Hong Kong has been a gateway like no other for longer than any emerging city. Based on high standards of market transparency, disclosure and prudently supervised financial institutions, the special administrative region, which this summer celebrated the 15th anniversary of its return to China, ranked third in the Global Financial Centres Index by the City of London released in September 2011, and first in the Financial Development Index published in the World Economic Forum’s 2011 Financial Development Report, surpassing New York and London since the index was compiled.
Just last week, Norman T.L. Chan, chief executive of the HKMA, spoke to the Treasury Markets Summit 2012 about Hong Kong’s leadership as an international financial center (IFC), and what he calls the power of the “3Cs”: competence, control and culture.
“Given Hong Kong’s accomplishment as one of the region’s premier IFCs, there are many study groups from abroad coming here to learn the tricks that have helped achieve what we have today,” he explained. “One visitor actually asked me point-blank when I received him in my office at IFC Two: ‘Give me the name of the architect of your building, and I am confident that we can build a taller and bigger building in order to turn my city into an IFC.’
But, said Chan, building an IFC is not about having the tallest skyscrapers or the fastest computers and fiber infrastructure. Instead, it’s about the “soft power” infrastructure found in such factors as the rule of law, protection of property rights, free flow of information, taxation, ease of doing business and talent pool. “Our success has been due to the fact that we have managed to build and develop our soft power in the last few decades,” Chan said.
That soft power may be a crucial part of a new way Hong Kong is helping companies and individuals find soft landings in mainland China — and helping Chinese individuals and firms find the same abroad.
The appreciation and acceptance of the Chinese yuan (renminbi or RMB, also known by the symbol CNY) is behind the increasing popularity of so-called “dim sum bonds” — offshore debt instruments denominated in RMB and issued in Hong Kong by Chinese and international companies, and structured to avoid Hong Kong and PRC regulators’ securities laws. China’s 12th five-year plan, released in March 2011, supports development of Hong Kong as an offshore RMB business center. And the Closer Economic Partnership Arrangement (CEPA) is opening up mainland opportunities to Hong Kong financial institutions.
All of the above activity is giving rise to opportunities in Hong Kong financial services that may herald a new era for the region as the gateway for investments both into and out of mainland China (PRC). The particulars were spelled out in recent speeches by Hong Kong Monetary Authority (HKMA) officials, and were discussed during a recent event at Atlanta’s Carter Center hosted by the Hong Kong Trade Development Council.
First, some timeline and background from the HKMA:
- January 2004: Hong Kong was first allowed by the Chinese government to provide personal RMB business as a pilot scheme.
- July 2009: China’s Pilot RMB Trade Settlement Scheme is implemented. Eligible enterprises in selected mainland cities and regions (Shanghai, Shenzhen, Guangzhou, Zhuhai, Dongguan, Yunnan and Guangxi) were allowed to settle in RMB in trade with their corresponding enterprises in Hong Kong and other selected locations outside the Chinese mainland (ASEAN countries).
- February 2010: The HKMA issued a guideline on offshore RMB businesses, further enhancing the operational efficiency and flexibility for Hong Kong’s offshore RMB business, and facilitating RMB trade and investments among enterprises.
- June 2010: An expansion of the RMB trade settlement scheme was introduced to cover a total of 20 provinces and cities on the mainland and any part of the world outside the mainland.
- August 2011: A further expansion relaxed the geographical limit of RMB trade settlement, effectively covering trade of all Chinese importers and more than 60,000 approved Chinese exporters with the rest of the world.
As the HKMA puts it, “The RMB trade settlement scheme and related facilitation arrangements have brought about many benefits, allowing traders to gain access to a range of new RMB services (including L/C issuance, packing loan, import invoice financing, export invoice discounting, and factoring), reducing the transaction cost of buying/selling in RMB, as well as allowing them to exchange, receive and keep RMB trade receipts offshore.”
In the first three quarters of 2011, around 9 percent of Chinese external trade was settled in RMB. Hong Kong has accounted for some 80 percent of the cumulative amount of trade settled in RMB since July 2009. Since the debut of the scheme, the related cross-border remittances totaled RMB 2.3 trillion (over US$367 billion) as of the end of 2011, and RMB deposits had surged tenfold since July 2009 to RMB 589 billion (US$94 billion).
Imagine If You Will
At the Atlanta event, Lori Clos Fisher, managing director, global corporate banking for Bank of America, informally polled the audience, finding that none attendance were currently buying or selling in RMB.
“Only 10 percent of companies are using RMB,” she said. “It is new, there are challenges, but if you get the right advice, it will be an important tool in trade.”
Why? Because foreign currency exchange (FX) is a risk that has to be managed, and there are tools to manage it.
“You can be a much more attractive buyer or seller if you’re willing to take that risk. It gives you transparency in pricing, takes away FX risk from your Chinese partner. If you’re buying and selling in China, you end up with a natural hedge of sorts. You net your exposure. And you broaden opportunity for trade transactions.”
She offered a hypothetical scenario where an individual wants to invoice a customer in China and receive payment. He doesn’t have a CNY account in China or offshore. He wants to be competitive, and wants as much access and flexibility as possible.
“He goes to a banker and sets up an offshore RMB account, and then he’s able to take deposits and make deposits,” said Clo Fisher. “He can include it in liquidity management around Asia and the globe. He’s able to get the FX conversion he needs, and access to the appropriate trade instruments.”
There is documentation required, and banker advice is necessary in the dynamic environment that such new opportunities engender, “but it is pretty straightforward compared to five years ago,” said Clos Fisher.
Another hypothetical: You’re a non-bank financial institution in Hong Kong, and you’re paying a consulting firm in mainland China to do work for you, but you don’t have a presence there. You’re making regular RMB payments from HK, going through the FX transaction manually to initiate payments — no automation, no streamlining and no relationship. Once an offshore RMB account is set up, you’re able to convert CNH (the symbol for RMB while offshore) to Hong Kong dollars. “It not only helps hedge exposure,” said Clos Fisher, “but it automates the process. This is an important business tool that U.S. companies are not using enough yet.”
Some companies are indeed using the tool. According to analysis from Norton Rose in February 2012, China’s Baosteel Group, an iron and steel producer, became the first PRC non-financial institution to receive approval to issue retail dim sum bonds (settled in RMB) in Hong Kong. The first synthetic RMB bond (settled in other currency such as U.S. dollars) was issued in July 2010 by Hopewell Highways Infrastructure. “As of May 2011, there have been some two dozen issues of RMB Eurobonds,” reported Norton Rose. “The list of multinational issuers now includes, among others, the World Bank, McDonald’s, Unilever, BP, Volkswagen, and Tesco.”
Sam Xu, executive director, J.P. Morgan Treasury Services, relocated from Shanghai to New York City 13 months ago precisely to help clients demystify China. He told the Atlanta audience that RMB international settlement is a very popular daily topic, and offered some brief guidance as to possible avenues to take advantage of it.
“You can do everything in renminbi today in a current account,” he said. “As a company, capital flow is part of your capital account. You can do FDI, with capital proceeds to set up a factory or JV. You could bring RMB as opposed to dollars onshore. You’d be worry-free about having U.S. dollars sitting onshore and vulnerable to currency fluctuation.”
Dividends from China can also be brought out in RMB. “You can declare, then channel it back to China for investment purposes,” he said.
Procurement from Chinese suppliers gets simpler too. “If trade were denominated in U.S. dollars, they’d have to consider hedging,” said Xu. “Lots of suppliers would require settlement in RMB. For sales, you could demand payment from Chinese buyers in RMB.”
Xu referenced his work with a U.S.-based company with multiple manufacturing bases in the Asia Pacific, including China.
“In the past, each and every sales office in China would be responsible for procurement,” he said. The factories in China supplied goods to the China office in RMB, but U.S. dollars were then collected from offices in Tokyo and Singapore. “So each of them faced significant foreign exchange exposure,” said Xu. “So they wanted to create a re-invoicing center in Hong Kong. It centralized intra-company trades. The trading company in Hong Kong would procure on behalf of all the sales offices in Asia Pacific, from multiple countries, and used RMB to settle imports and exports. The net result? FX exposure is reduced to the net difference between total imports to China and total exports from China. Lots of corporations that have grown larger in Asia Pacific are very interested in this kind of structure.”
The system is not without its kinks. The onshore clearing system for RMB is in Chinese characters, for instance. And though current accounts don’t need approvals, companies are still required to present a raft of documents to their processing banks on the mainland, which are responsible for verifying transactions. There’s also still a rate disparity between CNY and CNH. “And we constantly hear companies telling us that a rule carried out one way in Shanghai might not be carried out the same way in Beijing,” said Xu.
Nevertheless, he said, “Hong Kong is the most important RMB offshore market. There are lots of good opportunities for a company that already operates in China, or with partners.”
Looking Forward, Looking Outward
In a May 2012 speech at the Global Offshore RMB Funding Forum 2012, Eddie Yue, deputy chief executive of the HKMA, said it wasn’t just China’s gnawing hunger for trade that was driving the new prominence of the RMB. Heightened interest in the currency is also coming from investors and policymakers looking to use a greater mix of currencies for international trade and financial transactions.
“This trend has been accelerated by the recent Global Financial Crisis, as the need to reduce reliance on just one or two global currencies has grown,” he said. “Taken together, these trends imply a greater role for the RMB in the mainland’s trade and investment with the rest of the world. Likewise, they suggest a much wider use and circulation of RMB in the international financial system.”
The heart of that circulation is Hong Kong, where he said growing liquidity in the offshore RMB market has led to the development of RMB financing and FX markets, with an estimated daily turnover of around US$2 billion to $4 billion.
In January Deloitte said the RMB has the potential of maintaining a sustainable value, and contributing to the sustainability of regional and global currency values, which have suffered under worries of sovereign debt issues in Europe and the U.S. “The increase in RMB activities will motivate China to control its money supply with more discipline. The higher RMB stabilization will drive the sustainability of regional and global currency value and it will also contribute to the sustainable economic growth in the region,” said Eric Tong, global financial services industry leader of the southern region for Deloitte China.
In his May speech, Yue of the HKMA looked forward:
“Up till now, the intermediation of RMB funds has been primarily about placement of bank deposits by personal and corporate customers,” he said. “In future, it will move more towards issuance and investment of bonds and a wider range of other financial instrument and products.” He also expects the emergence of a RMB interbank funding market, and stronger links with the onshore RMB marketplace. But for now, the offshore hub is spinning:
- RMB deposits in Hong Kong, including Certificates of Deposits, grew by a factor of ten between end-2009 and March 2012, from around RMB 60 billion to over RMB 660 billion.
- RMB trade settlement transactions handled by banks in Hong Kong have increased from less than RMB 2 billion in 2009 to nearly RMB 2 trillion in 2011.
- Over the same two-year period, the Hong Kong RMB dim-sum bond market has seen issuances growing from RMB 16 billion to RMB 108 billion.
As of the end of March 2012, there were close to 200 banks participating in Hong Kong’s RMB clearing platform. With 170 of those foreign-owned or located overseas, time zones and minutes in the day become an issue. So as of late June 2012, the operating hours of Hong Kong’s RMB Real Time Gross Settlement system were lengthened to 11:30 pm Hong Kong time, giving financial institutions in different parts of the world an extended window to settle offshore RMB payments through the Hong Kong infrastructure.
At the Atlanta event, Margaret Fong, deputy executive director of the HKTDC, said Hong Kong’s rule of law and free economy (freest in the world for 18 years running, according to the Heritage Foundation) make for an unbeatable combination that people trust. And it isn’t just people looking to access mainland China. An increasing number of customers are looking from China outward.
“About 48 percent of Chinese FDI last year was directed to or channeled through Hong Kong,” she said. “Hong Kong is the window to the rest of the world.”