Last year, the British and Hong Kong governments agreed to promote London as a center of trading offshore yuan. This week, some meat was put on the bones of that agreement with the issue of a three-year yuan-denominated bond in London. HSBC was the lead on the deal, the first so-called dim sum bond to be issued outside China. It raised 2 billion yuan ($317 million), mostly from European investors, and yields 3%. Demand from investors was so heavy that HSBC doubled the bond from its originally planned size.
Yuan-denominated deposits in London totaled 109 billion yuan at the end of 2011, according to a report commissioned by the financial district’s government and published to coincide with the launch of a working group to develop London as the western hub for offshore yuan business. The group includes HSBC, the biggest issuer of dim sum bonds in Hong Kong, and Bank of China.
London’s is a sufficient pool of liquidity to start supporting a bond as well as a foreign-exchange market, but it is still less than a fifth of the 566 billion yuan in renminbi deposits in Hong Kong as of February. Despite the strong push London is making, Hong Kong remains the leading offshore yuan market, as Beijing desires. Singapore and New York also have designs on the business but London has stolen a march on them.
China’s doubling of the yuan’s trading band and other recent financial reforms, including allowing banks to hold short dollar positions, raising the ceilings on foreigners’ equity and bond investments in China, and a trial of giving domestic Chinese investors more access to offshore yuan markets, are all part of Beijing’s drive to expand the international use of its currency that started in 2008. More optimistic financial reformers have pencilled in 2015 for full convertibility. The more cautious fear that would be a destabilizingly quick timeline, especially if GDP growth continues to slow.
If the on- and offshore interbank markets forge a close link, that could force the pace. However, the offshore market is still in its infancy. Baby steps are yet to be made. In June, Hong Kong plans to extend its yuan payments trading to overlap with London hours. For its part, London is working on setting up local yuan clearing and settlement systems, probably piggy backing off Hong Kong’s. More European banks are expected to follow HSBC’s lead in issuing dim sum bonds in London later this year, as are the Agricultural Development Bank of China, China Development Bank and the Export-Import Bank of China.
Other yuan-denominated investment products will likely follow. But how fast London, or any other financial center, can develop as a hub of offshore yuan trading, will ultimately be determined by how quickly Beijing opens its capital account and lifts its foreign exchange controls so there is a sufficient volume of internationally circulating yuan to support the business. At present for every yuan deposited outside China, there are 99 inside.