IMF Approves Inclusion of China’s RMB in SDR Basket

Traders said that the IMF’s decision to add the Chinese currency to its Special Drawing Rights (SDR) basket was long expected, and its impact to the mainland’s stock market was neutral.

IMF Managing Director Christine Lagarde said the inclusion was “clearly an important milestone in a journey that had begun months, if not years ago” to a “market-driven” economy in China. It is also a recognition of the progress that the Chinese authorities have made in the past years in reforming China’s monetary and financial systems. China will continue to deepen and to accelerate economic reforms and financial opening up, and contribute to promoting world economic growth, financial stability and global economic governance and improve safeguards, it said.

But, as The New York Times notes: “The changes could inject volatility into the Chinese economy, since large flows of money surge into the country and recede based on its prospects”.

MSCI’s broadest index of Asia-Pacific shares outside Japan fell 0.7 percent, and was on course to log a loss of about 2.7 percent for the month of November, after making its first gains in six months in October. Also, a country’s financial aid payments are denominated in SDRs rather than a single currency.

The SDR is a type of worldwide reserve asset that the IMF created in 1969 to buttress the Bretton Woods system of fixed exchange rates that was established at the end of World War II.

At least 10% of global foreign currency reserves – $1 trillion – will switch into the yuan practically overnight, mostly at the expense of the USA dollar.

According to the bank’s third quarterly report for 2015, on December 31, 2014, the share of United States dollar in the Russian reserves was 44%, euro accounted for 42% and British pound – for 9.5%.

That conviction set off a global push by China’s leaders, including now-President Xi Jinping, to have the yuan included in the SDR, which countries can use to supplement their currency reserves.

The IMF reviews the currencies in the SDR basket every five years, and whether to add the RMB to the basket is a major issue for this year’s assessment.

Prasad says including the yuan in the SDR could “strengthen the hand of economic reformers in China” to implement further changes and further open markets.

“The IMF decision is a historical event”.

The Special Drawing Rights are not a freely traded currency, but are important as an worldwide reserve asset. Combined with the fund’s vague definition that left wide latitude for interpretation, Beijing’s latest efforts apparently were enough to give the fund an argument for yuan inclusion in its currency basket.

It confers a measure of global legitimacy to China’s currency as the government starts to liberalize its rigidly controlled exchange rate and financial system.