Saturday, August 8, 2015

IMF Delays Inclusion Decision for the Yuan - What Does it Mean?

It was expected that we would have to wait until this fall to find out if the IMF would be adding the Chinese Yuan/Renminbi to the SDR currency basket. As early as last December we were saying that this decision would be an important event in terms of potential monetary system change.  It is important and with the news from the IMF that a decision will be delayed until September 2016, we need to look at what this could mean.

As 2015 unfolded this issue flew onto the radar and began to get a lot of media coverage and attention. Early in the year, it seemed likely that the IMF would include the Yuan in the SDR basket this year (though the IMF has always hedged on timing). As time went by, the IMF began to send out signals that perhaps they might not include it this year.

Finally on August 4th, the IMF announced that the decision on whether to include the Yuan in the SDR basket would be delayed until at least September 2016. Here is an official IMF comment on it and this is how it was covered by Bloomberg. I should note that Jim Rickards has pointed out on his twitter feed that the IMF extending the current SDR basket does not mean they have to wait until September 2016 to make a decision on the contents of the new basket. It could just mean that they would not implement a new basket until September 2016. He finds the language they used "convoluted." (note: IMF clarifies here on their twitter feed

Here is the relevant Q&A from the IMF web site on this issue:

IMF Survey: Why is staff proposing an extension of the current SDR basket?

Tiwari: To put this in context, the current SDR basket expires at the end of this year. We are proposing extending the current SDR basket by nine months until September 30, 2016. This is in response to feedback from SDR users on the desirability of avoiding changes in the basket at the end of the calendar year and facilitating continued smooth functioning of SDR-related operations. An extension of nine months would also allow users to adjust to a potential changed basket composition should the Executive Board decide to include the RMB.

The proposed extension, which will be decided by the Executive Board later this month, would not in any way prejudge the timing of conclusion or outcome of the review.

The IMF statement is pretty dry and just attributes the delay to a desire to make the transition flow more smoothly as if it is mostly just the timing of routine procedural matters that needs to be addressed. 

The Bloomberg article added a little spice. Here is a quote from that article:

"The report suggests that while approval by the IMF board isn't yet assured, it's within reach, and the decision will come down to more than just the staff's assessment. China has been pushing for the yuan to join the dolllar, euro, yen, and pound in the SDR basket; while France has called for including the yuan, the U.S. has urged China to keep moving toward a flexible exchange rate and making financial reforms to qualify. "The ultimate assessment by the board will involve a significant element of judgement," the IMF report said."

I am not sure what "the ultimate assessment by the board will involve a significant element of judgement" means, but it sounds like it means that more than just routine procedural timing matters are involved.

What reactions can we expect from this news? Here is quick bullet point list:

- those who think China and the US/IMF are at odds will probably see this as a sign that China is moving closer to backing the Yuan with gold and openly challenging the US dollar as the leading global reserve currency. They probably expect a significant reaction from China.

- those who think China and the US/IMF are in an ongoing chess match that will ultimately see the Yuan included in the SDR basket even after the delay probably see this as a sign that the issue has become complicated and that the US/IMF wants more from China before giving them the big prize they want.

- if we just take the IMF statement at face value, it sounds like they just want to avoid this decision for awhile longer due to routine procedural timing considerations (to allow for a smooth transition).

I reached out to Jim Rickards on this news because he has followed this very closely and is well versed in the subject. He kindly replied with a quote on this that he gave permission to publish here on the blog. Here is his take in his exact words:

Here's my take:

Extending the time period for including the yuan in the SDR will also extend the time period in which China must be on their best behavior as a pre-condition to inclusion. This means the informal peg between the dollar and yuan will have to be maintained another year or more. The effect is deflationary because the U.S. is making noises about raising rates at a time when the U.S. and Chinese economies are both visibly slowing. In the short run, this is negative for precious metals and commodities generally. In the longer run, the bull case is still intact; it just means central banks will have to use extreme measures down the road to achieve inflation after the deflationary damage is done.

James Rickards

I also contacted Nomi Prins and Willem Middelkoop to see if they wanted to offer a comment. Nomi Prins said, while this is very important news, she was not ready to comment on it yet. She did say she would advise me if she wrote an article on this in the future. Of course, if she does, we will feature that here.

Willem Middelkoop (author of The Big Reset) was very kind to reply and send me a full article on this issue. He even told me I was the first to see it! Because it is a longer article, I have made it a separate blog post that I published earlier today. Click here to read it.

Bill Holter, who writes for Jim Sinclair's blog site, believes China will not be willing to accept this news without any kind of response. In his new article he proposes two possible ways China might retaliate later on. You can read his take on that here.

My added comments:

First, a thank you to Jim Rickards, Nomi Prins, Willem Middelkoop, and Bill Holter for taking time to give readers their thoughts. Their time is valuable and they are generous to take time to reply. 

My reaction to this news is that I have to believe there is more to this delay than just simple procedural timing issues. Everyone following this knows that this decision is very important in a symbolic way to all the parties involved. With China working on a so called "Plan B" to move forward after waiting for years for the 2010 IMF reforms to be approved, you know they are disappointed to be told to wait once again. Jim Rickards and Willem Middelkoop both think the Yuan/Renminbi will be added in 2016. Bill Holter believes China will retaliate when they think the time is right. Will the Chinese continue to be patient once again?

There is no way we can know all the issues that might be in play here. Some wonder if the recent accusations of the Chinese hacking the US government are involved. Some wonder if the Chinese efforts to attract other nations to the AIIB and BRICS Bank (NDB) might be involved. The IMF and the US have said all along that China needed to keep working on opening up its markets. Will the IMF end up becoming the referee between the US and China and be viewed as the problem solver? Perhaps any or all of these factors are involved. Perhaps there are other factors behind the scenes we don't even know about.

What we can say is that this will likely delay the answer to one of the two big questions we are following here -- will the SDR become a global reserve currency? It won't be a global reserve currency any time soon if they don't even add in the Yuan until September 2016.  We talked about the roadblocks for the SDR in this recent blog article. That article points out that these things tend to move much slower than people anticipate, unless a crisis emerges.

Readers may ask: What is the blog going to cover while waiting on all this?

Good question. If we do not get a major financial crisis any time soon and the SDR basket review is on the back burner until fall next year, we may not have much major news to cover. What we will do for readers is continue to monitor articles and events that might eventually impact the two big questions we follow here: 

1) Will we get another major crisis worse than 2008? 
2) Will the SDR become a global reserve currency?

We will also continue to feature Jim Rickards, Nomi Prins, Willem Middelkoop and others as well. We will cover relevant articles or speeches that appear on the IMF and BIS web sites. If something does happen to shake things up this fall, we will try to be ready to cover that as well. 

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