Richard Turrin is the author of the best-seller “Innovation Lab Excellence” and the soon to be published “China’s Digital Currency Revolution.” He previously headed IBM’s Fintech Innovation Lab in Singapore and IBM’s banking risk technology team in China after a 20-year career in investment banking. Connect on Linkedin or Twitter for more, and sign-up for notification of his coming book on China’s CBDC here: https://richturrin.com/chinas-digital-currency-revolution/
Will It Steal the Dollar’s Place in the Sun?
With some 60% of the world’s currency reserves and 80% of international trade denominated in US dollars, it’s easy to take for granted that the dollar will be the currency of choice for years to come. But will its domination last?
China’s Central Bank Digital Currency (CBDC) is almost ready for launch. With talk of US-China decoupling making the front-page every day, the novel currency has caught the eye of many. What role will China’s digital RMB have in this new world? Most importantly, what it means for the dollar (if anything)? One thing is indisputable: in a decoupled world, there will be a higher demand for the RMB than ever before. Whether China’s e-RMB becomes a game-changer and tests the dollar’s rank as apex currency, remains to be seen. The odds of success, however, are raised considerably, given that China is the world’s largest exporter.
China’s CBDC is a new form of payment that is under test in four Chinese cities right now. It is essentially a second generation of digital payment. The first were the wildly successful mobile payment apps Alipay and WeChat pay. Between them, these two giants now control some 90% of mobile payments in China, and 85% or all payments in the country. It’s hard for many to envision a cash-free society or one without credit cards. In China, for most residents’ daily lives, this has already arrived.
I call these mobile-payment apps “first-generation” technology because they rely on debit cards and traditional banks accounts for real-time payment. Payments are carried by the mobile payment company’s network and made when account balances in the two accounts are updated. In second-generation CBDC based technology, digital money will move directly from person to person. No bank, no Visa, no Mastercard, no mobile payment company required. CBDCs aren’t a representation of account balances, (as is also the case with Google and Apple Pay), so much as actual digital money stored on one’s phone.
If this sounds like a revolution, it is. CBDCs match the convenience of their close cousins cryptocurrency, but have the added benefit of being “real money.” This will prove wholly disruptive to card companies, whose money-transport services will no longer be needed. While China’s CBDC will be applied first for domestic payments as a substitute for cash, its future use in international trade payments is what is causing concern among observers overseas. China’s CBDC is the first government-controlled digital challenge to the SWIFT funds transfer system. With China’s CBDC, there will be no need to use SWIFT. China’s digital payments will be out of sight from the US, sanctions, and the banking system. It is a change in paradigm, amid accusations that recent US policy has effectively “weaponized” SWIFT.
SWIFT-evading financial systems like Russia’s SPFS and China’s CIPS have been around for a while, without making much of a dent. The difference here is China’s new digital technology is launching into a decoupling world. China isn’t just initiating a new currency platform but an entire digital trade system. The e-RMB is only one part of a much bigger program to digitize all aspects of trade with China. Digital trade platforms will handle everything from financing to delivery and will be used to entice trade counterparties to switch to the e-RMB. Digital RMB purchases will make international purchases as easy as buying on Amazon.
In a recent article in “Foreign Affairs,” former US Treasury Secretary Hank Paulson stated: “China’s much-touted successes in the realm of fintech—including its rapid deployment of mobile payment systems and the recent pilot project by the People’s Bank of China to test a digital RMB—will not change that [dollar dominance]. A central bank-backed digital currency does not alter the fundamental nature of the RMB.” Paulson is right that the nature of the RMB won’t change, but China never claimed it would. Instead, China is aiming to use fintech to change the nature of how we conduct international trade. China’s e-RMB integrated trade finance and shipping platforms are going to entice users to increase RMB adoption through ease of use and discounts that make it impossible to say no.
Countries that are heavily involved in China’s Belt and Road program will be early adopters, followed closely by companies looking to benefit from savings in financing or shipping costs. Already, digital trade finance systems put in place by several banks in China that allow for end-to-end digital trade payments are showing significant increases in use. Right now, transacting on these digital platforms can save weeks for trade companies, but these are just the beginning. Alibaba owned Ant Financial, the world’s largest fintech, is working with China’s largest port operator to build a blockchain-based platform to carry out completely digital import-export transactions. When China’s digital trade systems are complete, the preferential terms for e-RMB users and access to fast-track customs and delivery will make it hard for many to say no. A meteor may be about to strike the global currency market and its hierarchy of players. China’s CBDC ushers in not just a currency, but an entirely new ecosystem.
Let’s look at the size of the RMB market for merchandise trade alone, to see how China can drive e-RMB and what its relevance could be. According to the WTO, world merchandise exports totalled US$ 19.48 trillion in 2018, with China’s contribution as the world’s leading exporter of US$2.5 trillion at roughly 13% of this total. According to SWIFT, only 16% of China’s trade settled in RMB in 2017. So how much of this trade can be revalued into e-RMB? Let’s assume that in the coming decade, China can use e-RMB to lift the percentage of RMB settled exports from 16% to 50%. A reasonable amount, given that China tripled RMB use in trade over the past five years. Roughly doubling RMB use through the e-RMB would create a US$0.85 trillion trade market. For comparison, this is big enough to exceed Japan’s 4th place in total exports globally. Japan, however, only uses the Yen in about 40% of exports, meaning that the e-RMB would exceed the use of Yen in international trade by a factor of almost three.
Is that big enough to supplant the dollar? No. The dollar has been dominant for 75 years, and its payment volumes are so massive that it isn’t going anywhere in the near future. The real question, though, is a bit more subtle. Can the use of the e-RMB --in China trade alone--provide an alternative to the dollar? The answer is that it can. Japan’s Yen is in fourth place on the SWIFT global payment table based mainly on its use in trade. If the e-RMB were to achieve volumes that were roughly triple that of the Yen, China’s e-RMB would be in third place on the SWIFT table behind the Euro and ahead of the Pound. An example of digital disruption at its finest.
China building an e-RMB based trade ecosystem that compels users to the e-RMB is a bold move by China and a potential disruptor to currency markets. China is using its fintech prowess to change the rules of an environment that it believes is widely stacked against it. The e-RMB will foster the internationalization of the RMB and do so without having to make the RMB fully convertible and dependent on Western financial markets. Fintech, while often derided in the West as nothing more than a toy, has a real role to play in the geopolitical game. China recognizes this, while the US largely does not. The e-RMB won’t be about replacing the dollar so much as elbowing it out of the way to land a solid – and perhaps even increasingly dominant—niche in an evolving world.