China is the world`s second largest economy, accounting for more than 40% of international trade, but as of May 2020, only 1.79% of global payments were made via the RMB. The international dominance of the US dollar, China`s reluctance to move decisively to one side of the “impossible trinity” and the illiquidity of the offshore RMB have dampened international attitudes towards the currency. In response, Beijing has sought to combat the dominance of the US dollar and replenish offshore liquidity through its “One Belt, One Road” initiative, a large-scale overseas infrastructure program. Through “attractive” loan programs, China is making new friends in less developed regions and trying to build an early network of RMB users. Despite the negative impact of Covid-19, the Chinese economy has again started to grow faster than the US and other EU countries, and the Chinese RMB is under increasing pressure to introduce a flexible exchange rate. China has set up swap facilities in participating countries to promote the use of the renminbi. BSAs appear to be a tool to encourage other countries to rely more on Chinese goods and RMB loans to buy them. Therefore, its economic influence will be strengthened and the objective of internationalization of the RMB and its establishment as an alternative reserve currency will be promoted. These facilities, like the ongoing agreements between the New York Fed and other central banks, are designed to help reduce tensions in global U.S. dollar funding markets and mitigate the impact of these burdens on the supply of credit to households and businesses at home and abroad. India and Japan have signed similar agreements in the past, but this is the largest bilateral agreement of its kind in the world. This interactive currency swap was developed by Benn Steil, Director of International Economics, and former analyst Dinah Walker.
Imagine a company, the US dollar and needs pounds sterling to finance a new operation in the UK. Meanwhile, a British company needs US dollars to invest in the US. The two seek each other through their banks and come to an agreement where they both receive the money they want without having to go to a foreign bank to get a loan, which would likely result in higher interest rates and increase their debt burden. Cross-currency swaps do not need to appear on a company`s balance sheet when a loan would. But there must be something for Japan too. The currency swap will boost trade between India and Japan. This also has political consequences. Japan has bought India`s goodwill and will await its support in international forums. As the list of countries in Table 1 makes clear, this is not the principle adopted by the PBoC. It has concluded swap agreements with countries whose balance of payments is subject to balance of payments pressures. And often, precautions were taken when the country in question was actually stressed.
Pakistan and Argentina are two of the few countries that have operated their BSAs, but not in the traditional sense. In times of financial crisis, Pakistan and Argentina used the agreements to obtain RMB and convert it into USD in offshore markets. In reality, these are just a few isolated cases in which exchange agreements have actually been concluded. Of China`s 35 BSAs, very few have been effective in facilitating trade between China and its trading partners. The agreements certainly strengthen China`s diplomatic influence as a short-term bank with average liquidity when Western institutions are not available; However, very little impact on trade has materialized. Given China`s importance as a supplier of goods and as a source of investment and credit for developing countries around the world, and its efforts to internationalize the RMB by disclosing an increasing proportion of these transactions in RMB instead of dollars, these swaps are suitable for both China and its partners. Since 2007, central banks in developed countries have also provided swap lines to a limited number of emerging markets. Due to the risks associated with swap lines, the Fed has been much more cautious in its expansion into emerging markets than into other developed markets. The Fed insisted on provisions that allowed it to seize its assets from the New York Fed if it did not repay.
There are three variations in the exchange of interest rates: fixed interest rate at fixed interest rate; variable interest rate at variable interest rate; or Variable rate fixed rate. This means that in the case of a swap between the euro and the dollar, a party that is initially required to pay a fixed interest rate on a euro loan can exchange it for a fixed interest rate in dollars or for a variable interest rate in dollars. Alternatively, a party whose euro loan is granted at a variable interest rate can exchange it for a variable or fixed interest rate in dollars. A swap of two variable interest rates is sometimes called a base swap. The RMB still has a long way to go to become a global reserve currency (Speech by San Francisco Fed President John Williams at the China-Harvard Symposium in September 2015). Nevertheless, the steady rise in the RMB seems inevitable given China`s growing economic importance. The $468 billion (and growing) currency swap agreements not only demonstrate the wider use of the RMB, but also underscore China`s growing international responsibility to its trading and strategic partners. As part of a swap operation, a central bank seeking access to foreign currency liquidity (in this case, the RMB) sells to the source bank a certain volume of its own national currency in exchange for foreign currency at the prevailing market exchange rate (spot). The transaction also includes the obligation for the applicant to redeem their local currency with the foreign currency at a predetermined time in the future at the same exchange rate.
When the second transaction is made, the borrowing central bank also pays interest at a market-based interest rate, depending on how long it has used the swap line. In October 2008, the Fed expanded swap lines to Brazil, Mexico, South Korea and Singapore. How were these countries selected, among the many that applied for them? After the 1997-98 Asian financial crisis, the Association of Southeast Asian Nations (ASEAN), China, South Korea and Japan established a network of bilateral currency exchange agreements “to complement existing international institutions.” In 2010, the Chiang Mai Initiative (CMI) was multilateral, meaning it was transformed from a network of bilateral agreements between countries into a single agreement, the Chiang Mai Multilateralization Initiative (CMIM). A surveillance unit, the ASEAN+3 Macroeconomic Research Bureau (AMRO), has been set up to monitor member countries for signs of emerging risks and to analyse countries requesting CMIM funding, similar to what the International Monetary Fund (IMF) does for its member countries. The fourteen countries participating in CMIM accepted a certain financial contribution and were then allowed to absorb a multiple, ranging from 0.5 for China and Japan to five for Vietnam, Cambodia, Myanmar, Brunei and Laos. In 2014, the size of the agreement was doubled from $120 billion to $240 billion, and the amount a country could access without participating in an IMF program increased from 20 percent to 30 percent. However, when World War I broke out in 1914, many countries abandoned the “gold standard” in order to be able to pay for their military spending with paper money that devalued their currency. Three years into the war, Britain, which had firmly adhered to the gold standard to maintain its position as the world`s leading currency, was forced to borrow money for the first time.
Eventually, in 1919, Britain was forced to abandon the gold standard, which decimated the bank accounts of international traders who traded books. At that time, the US dollar had taken control of the pound sterling as the world`s largest reserve. (Siddiqui, 2020a) In practice, however, China`s currency swap arrangements have also been activated as a source of liquidity for reasons not directly related to trade. .