China has reached a major symbolic milestone by having the yuan accepted by the International Monetary Fund as a global reserve currency for emergency landing, putting it in the august company of the dollar, euro, pound sterling and yen.
However, a currency earns full blown reserve status only by establishing a certain degree of credibility with the world’s financial markets and the major central banks. There are not many of the latter who are prepared to hold the yuan as part of their foreign exchange reserves. Even the People’s Bank of China has not made any noises about liquidating its multi-trillion dollar holdings of dollar bonds.
The heart of earning such credibility will be a track record showing that Beijing will allow the value of the yuan to be set by the market rather than by central committee fiat. This, in turn, will reassure holders of yuan reserves that Beijing will pursue growth- and stability-oriented economic policies — the ultimate source of a currency’s strength.
This summer’s stock market roller coaster saw the Xi Jinping government respond in a ham-handed statist fashion. Yet, Beijing insists it is up to the challenge.
There would be considerable benefits for India and the rest of the world if the Chinese state does let go of its grip on its financial system.
Indian industry, along with that of many other countries, have cried themselves hoarse against what they believe to be Chinese imports powered by a deliberately devalued yuan. In theory, this will no longer be the case as the yuan establishes its reserve credentials.
The global economy will be a lot more stable if its stakeholders have more reserve currencies to play around with. India’s recent experiences with runaway inflation, the backwash of financial bubbles in other parts of the world and lopsided interest rate policies have been partly a consequence of the loose monetary policies of the West.
A Chinese reserve currency, for example, would mean less demand for US bonds and make it harder for Washington to print money. Some in India may wonder when the rupee can achieve a similar status.
The answer is that the world awards such status on many years of solid growth and institutional dependability. India, with an economy a quarter that of China’s and nowhere near as open to the world, still has to earn its stripes at home.