Redback Rising: China's Bilateral Swap Agreements and Renminbi Internationalization

Abstract

For several years now, China has implemented policies to promote the international use of its national currency, the Renminbi (RMB). As part of these efforts, the People's Bank of China (PBC) has negotiated 25 bilateral currency swap agreements (BSAs) with foreign central banks. These make it easier for firms in both China and its partner countries to settle cross‐border trade and direct investment in RMB. We seek to explain why China and these countries cooperate via BSAs. We theorize that trade and direct investment interdependence relate to dyadic BSA cooperation via two mechanisms: financing insulation from international liquidity shocks and reduced transaction costs of cross‐border exchange for local firms. Additionally, we expect the presence of preferential trade agreements (PTAs) and bilateral investment treaties (BITs) will increase the probability of dyadic BSA cooperation. BSAs are natural extensions of these existing agreements. They represent an additional layer of state‐level formal cooperation that further reduces barriers to cross‐border trade and direct investment. Our empirical analysis finds that both de facto trade interdependence and de jure economic integration via PTAs and BITs increase the probability of BSA cooperation between China and partners.

China's Bilateral Currency Swap Lines

“…The finding is also consistent with China's foreign 12 Similar trade intensity effects are reported in, for example, Garcia-Herrero and Xia (2015), Liao and McDowell (2015), and Yang and Han (2013) despite the effects are measured differently. 9 exchange policy.…”

“…We anticipate the trade activity, among other economic relationships, is a factor. Indeed, some earlier studies verified the role of trade activity (Garcia-Herrero and Xia, 2015;Liao and McDowell, 2015;Yang and Han, 2013). 3 It is quite well known that, given its unique development experiences, China's dealings with the rest of the world are not necessarily driven by pure economic considerations.…”

The Connection between the Increase in Foreign Reserves around the Globe and the U.S Collection of Seignorage Revenue

“…A substantial share of U.S. currency circulates outside the United States. However, the superiority of the US is not immune and Liao and McDowell (2015) found evidence that 37 central banks have added China's Renminbi (RMB) to their reserve portfolio since 2010. Krugman (2007) also pointed out to the resemblance between the current US situation and that of developing countries in the sense that if capital inflows abruptly will cease, the currency plunged, and the economy will experienced a major setback…”

“…However, according to relevant literature (see for example, Liao and McDowell (2015)) no one can guarantee the continuation of the phenomenon in the future. The signs that a new currency will displace the U.S. currency as the anchor already exist.…”

RMB internationalization: how far has it gone and what should China do

“…There is a limited but potential role played by the swap agreements, border trade and offshore market development promoted by the Chinese government and its international counterparts. The swap agreements were initiated for crisis response, but the Chinese government also uses them to challenge the Dollar's position in those countries and to promote bilateral trade and direct investment between China and each partner in local currencies (Liao and McDowell 2013). The pilot project is established to experiment and quicken capital account liberalization and fully convertibility of the RMB.…”