Many investors pay attention to the Chinese yuan as an alternative option for savings and investments. Is it worth investing in the yuan now? It is far from easy to answer. It is necessary to assess a number of factors: the development of the Chinese economy, the role of the yuan in the international market and their prospects, the monetary and financial policy of the Chinese authorities, etc.
China in the global economy
For more than 11 years, the Chinese economy has been considered the second largest in the world ranking. It's hard to argue against statistics. Indeed, in terms of nominal GDP since 2010, the People's Republic of China has pushed Japan and ranked second after the United States. According to the IMF, by the end of 2021, the situation has not changed qualitatively: China, with $17.5 trillion of nominal GDP, is still inferior to the United States with $23 trillion. But is such an assessment objective enough? Firstly, the economy of any country is a complex and multifaceted phenomenon. It is impossible to assess its level only by one indicator. Secondly, nominal GDP is not very suitable for comparing the economies of different countries. It consists of the actual volume of products produced at current prices, and for comparison with other countries it is converted into US dollars. That is, nominal GDP has 3 components:
- physical volume of production,
- prices for it in the country,
- the exchange rate of the domestic currency to USD.
The actual level of the economy is determined by the actual physical volume of what is produced. In nominal GDP, it is distorted by current prices, which change due to inflation. The higher it is, the higher the nominal GDP. For example, the Government of Ukraine announced a phenomenal GDP growth in 2021, which exceeded the record 2013. Nominal GDP did grow, but ... thanks to a 39% increase in producer prices. And in comparable prices in 2021, it amounted to only 92% of 2013.
Taking into account the shortcomings of nominal GDP, it is customary to conduct international comparisons on gross domestic product at purchasing power parity (GDP PPP). At least that's what the World Bank and the IMF are doing. GDP PPP is determined by taking into account the ratio of the number of monetary units with which a certain basket of basic goods can be purchased in the compared countries.
Unlike nominal GDP, PPP is adjusted to the actual price level in the country and reflects the physical volume of products produced.
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The share of the Chinese and American economies in the world GDP PPP
In terms of GDP PPP, the Chinese economy has been in first place in the world since 2016. The share in the global GDP of the PPP of the Chinese and American economies in % is shown in the graph:
Changes in the share of GDP PPP of various regions in the world economy for 1981-2021
Changes in the % share of GDP PPP of various regions in the world economy for 1981-2021 and the IMF forecast for 2027 are reflected in the histogram:
As we can see, Europe and America, including the USA, have been losing leading positions to the countries of the Asia-Pacific region (ATO) since 2001, among which China holds the leading place. This trend, according to the IMF forecast, will even increase by 2027.
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The GDP growth rates of a number of countries per year on average for the designated periods
The GDP growth rates of a number of countries per year on average for the designated periods in % and the IMF forecast for 2027 are reflected in the following histogram:
The growth rate of China's economy is gradually decreasing, but significantly exceeds this indicator for th e United States, Europe and the world as a whole. In other words, China's leading economic position will only strengthen in the near future.
China is the world's leading exporter. According to the World Trade Organization, exports by major regions, China and the United States as a% of world exports are as follows.
Exports by major regions to China and the USA as a percentage of global exports
China is steadily increasing its share in world exports, while the US share is steadily declining.
In terms of imports, China is in second place in the world, behind the leadership of the United States. At the same time, the trade balance (the difference between the value of exports and imports) for China, it is positive, and for the United States, it is negative.
Trade balance in % of GDP of China and the USA since 2013
A positive trade balance contributes to the accumulation of reserves and the strengthening of the national currency. Negative – on the contrary. In addition, with a negative balance sheet, there is a problem of increasing external debt.
China's external debt in relation to GDP is one of the lowest in the world.
The situation with the PRC's public debt is not as rosy as with the external one. However, the public debt is at a quite acceptable level, which, according to the recommendations of the World Bank, should not exceed 77% of GDP.
To service and repay public and foreign debt, China has the largest gold and foreign exchange reserves in the world.
Read more: US national debt: why it is growing all the time
The structure of China's international reserves as of 01.01.2022
So the yuan is clearly not in danger of default in the coming years. However, the structure of China's international reserves, taking into account today's geopolitics, does not seem quite successful:
China has the world's largest banking system. At the beginning of 2021, the total assets of Chinese banks amounted to 319.7 trillion. yuan, which is equivalent to $49.2 trillion. This is 2.4 times more than the assets of US banks, which amounted to $20.6 trillion on the same date. All four largest banks in the world are Chinese (the amount of assets is indicated on 01.01.2021):
- The Industrial and Commercial Bank of China (ICBC) is the largest on the planet with assets of more than $4 trillion;
- China Construction Bank (CCB) - $3.4 trillion;
- Agricultural Bank of China (AGBank) - $3.3 trillion.
- Bank of China (Bank of China) - $3 trillion.
According to most of the economic indicators considered, China occupies a leading position in the world and has good prospects for further development. The USA and European countries are gradually losing their positions to the countries of the Asia-Pacific region, and, first of all, to China. However, the Chinese economy is strongly tied to the US dollar.
Read more: About the SWIFT Global Interbank System
The Yuan in the global economy
The currency system of the People's Republic of China is quite diverse. The main monetary unit is the yuan (international designation CNY). One yuan is divided into 10 fyns, and 1 fyn is divided into 10 jiao.
Offshore yuan (CNH) is used for turnover outside mainland China, mostly in Hong Kong, and settlements with non-residents. The exchange rates of the yuan and the offshore yuan in relation to other currencies practically coincide, differing mostly by fractions of a percent. Two special administrative regions of China have their own currencies: in Hong Kong - Hong Kong dollar, and in Macau - pataka. In addition to circulation in Hong Kong, the Hong Kong dollar is quite actively used in international settlements with a share by the end of 2021. 0.92% according to SWIFT (International Banking Information Transfer System).
Change in the share of the yuan in international settlements in % since 2011
The share of the yuan in settlements using SWIFT is relatively insignificant, although it tends to increase:
Change in the share of the yuan in international settlements since 2011
The share of the yuan in international foreign exchange reserves is similar.
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Change in the share of the yuan in international foreign exchange reserves from 2016 to early 2022
Since 2015, the yuan has been included in the basket of special drawing rights of the IMF – SDR (a kind of IMF currency intended for lending to Central banks). In this basket, the yuan ranks third:
The position of the yuan in the basket of special drawing rights of the IMF SDR on 01.01.2022.
But this is rather a matter of prestige, which has little to do with real economic development.
The capitalization of the Chinese stock market, which is an important way to increase demand for the yuan, is also inferior to the country's role in the global economy.
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According to the main parameters, the share of the yuan among world currencies lags significantly behind the economic weight of China in the world. This share is gradually increasing, but the growth rate is insignificant. The reason is the opposition from the United States and leading European countries. It is stated that the yuan exchange rate is artificially undervalued, demands are made for the complete cessation of its state regulation, for the revaluation of the yuan (i.e., an increase in its exchange rate against other currencies), etc. These conditions are unacceptable for China. Their implementation would lead to a decrease in the competitiveness of Chinese products, a decrease in revenue in yuan from exports and corresponding budget revenues. The real meaning of such claims is to preserve the dominant position of the US dollar in international settlements and reserves by any means. This makes it possible to control not only money, but also commodity flows, to block export-import channels, freeze foreign exchange reserves, limit the possibility of repayment of external debt, creating a situation of artificial default, as well as shift their economic problems to the shoulders of other countries. For example, in order to repay the external debt, any country needs to produce and sell real products for USD, and the United States simply "prints" dollars, which are readily accepted by most countries. The "printing press" is also being launched to solve internal economic problems. So, to support the economy in the covid crisis, the United States issued about $6.5 trillion in 2020-2021. Naturally, such actions lead to a decrease in the purchasing power of the dollar, inflation, covering not only the United States, but also the whole world, depreciation of foreign exchange reserves.
This situation does not suit China, which is taking measures to reduce the role of the dollar in the world and strengthen the position of the yuan:
- A free trade zone was established in Hainan (2018).
- Restrictions on foreign investment in a number of sectors of the economy have been lifted (2018-2021).
- The law on foreign organizations has been adopted, creating favorable conditions for investment (2020).
- On January 1, 2022, the Agreement on China's accession to the world's largest free Trade zone - a comprehensive regional economic partnership that unites 15 ATO states - came into force.
- In 2015, China created its own payment system CIPS (Cross-border Interbank Payment System) – an analogue of the SWIFT system. In 2021, international settlements for 80 trillion were made through CIPS. yuan ($12.68 trillion). Taking into account this amount, the share of the yuan (CIPS + SWIFT) will be almost 13%, not 2.23%, as SWIFT shows.
- At the beginning of 2020, China began testing an "electronic" yuan based on blockchain technology. To date, this system is being tested in a number of provinces of China. With the introduction of electronic currency on a national scale, a significant weakening of the yuan-dollar relationship is expected.
Monetary policy of the People's Republic of China
Inflation in China and the United States
It is known that China's economy is subject to rather strict state regulation. This applies, perhaps, primarily to monetary and monetary policy. The Government of the People's Republic of China has managed to ensure for quite a long time an acceptable inflation rate of about 2% per year:
Only in the crisis of 2020, inflation at the moment jumped to 5.3% per annum, but by the beginning of 2021 it had dropped to -0.3%. In the USA, inflation during the period under review was at the level of China, but since the beginning of 2021, it has begun to grow significantly to 8.3% per annum for April 2022.
Read more: Recession in the US in 2022
Interest rates in the economies of China and the United States
Changes in interest rates of the People's Bank of China and the US Federal Reserve are shown in the following chart:
In China, the interest rate is consistently and steadily declining, providing cheaper loans and stimulating economic growth. In the US, it is very volatile. Moreover, changes are often influenced not by economic, but by political factors. So, in 2019, the rate increase occurred despite the opposition of then-President Trump and was a compromise.
The exchange rate of CNY to USD since 1994 was set by the Chinese government initially at 8.7, and since 1995 in the range of 8.30-8.27. Since 2005, this rate has been changing towards the strengthening of the yuan and from 2008 to 2010 was fixed at 6.83. Since 2010, the exchange rate is formed on the stock exchange, but is maintained in the corridor 6-7 yuan for $1 thanks to the currency interventions of the People's Bank of China (sales or purchases of USD).
The dynamics of the yuan against the dollar
Do I need the yuan to invest?
It could only be required to invest directly on Chinese exchanges. There are three of them in China:
- Hong Kong (HKEX),
- Shanghai (SSE),
- Shenzhen (SZSE).
The Chinese government does not welcome the influx of foreign capital into Chinese companies. Therefore, foreigners' access to the last two exchanges is completely closed.
Read more: What is Quantitative Easing (QE) and its impact on financial markets
Conclusions
The Chinese economy occupies a leading position in the world in many respects. The main Chinese currency, the yuan, occupies a place in international settlements and reserves that clearly does not correspond to China's economic weight. The share of the yuan in international turnover is gradually growing and this trend is likely to continue in the future.
But is the yuan so attractive from an investment point of view? Definitely not. The yuan has less liquidity. If the dollar is the world currency that can be paid in almost any country, then the Chinese Yuan in its cash form is possible to use only when traveling to China. Yuan can be converted in other countries of the world to the same dollar or euro, but it is quite possible that there will be no benefit from such a conversion. It is also worth remembering that in the current conditions of increasing inflation exceeding interest on bank deposits, the yuan, like other currencies, is not suitable as a means of saving savings.