China relaxes RMB derivatives market

The People’s Bank of China (PBOC) has issued new regulations allowing banks to offer renminbi (RMB) cross-currency swaps for the first time. The regulations also make it possible for more banks, including foreign banks, to get approval to offer RMB forwards.

The regulations, issued on August 9, are seen as the biggest step taken by the PBOC in liberalising the RMB derivatives market since the publication of long-awaited derivatives guidelines by the Chinese banking regulator, the China Banking Regulatory Commission (CBRC), last year.

The new PBOC regulations say that banks with spot foreign exchange and derivatives licenses can apply to the PBOC to conduct RMB forward transactions. Those given approval to conduct RMB forwards can then register with the State Administration of Foreign Exchange (Safe) to engage in cross-currency swap transactions, so long as these do not involve the exchange of interest rates. It is estimated that over 130 domestic and foreign banks could qualify to apply for permission to offer RMB forwards and swaps.

Approval to trade RMB forwards on a trial basis was first given to the Bank of China in 1997, and the pilot programme was subsequently extended to the other three big Chinese banks – Agricultural Bank of China, China Construction Bank and Industrial and Commercial Bank of China (ICBC). Early this year, Safe extended the approval to three more banks, namely China Merchants Bank, Bank of Communications and Citic Industrial Bank.

RMB forward contracts were initially designed exclusively for trade-related purposes. But the new PBOC regulations extend the use of RMB forwards for purposes of repaying foreign borrowings in and outside of China, converting returns from investments abroad, proceeds from overseas listing and other foreign income registered with Safe.

RMB forwards are currently limited to six and 12 months, and the RMB cross-currency swaps would be based on the same tenors. The regulations say the cross-currency swaps can be offered for trade-related purposes, as well as for converting returns on overseas investments, listing and other approved income. Banks, however, cannot offer cross-currency swaps for repayment of foreign borrowings.

One banker in China said that the PBOC and CBRC have also been in discussion with banks over plans to allow them to conduct interest rate swap transactions. “The interest rate swaps would take longer, as the regulators are talking to banks to try and address the risk management issues,” the banker says.

One issue that foreign banks face in offering RMB forwards and swaps is their limited access to the local currency, bankers say. Unlike the Chinese banks, which have over $200 million in average daily trading volume of RMB/US dollar spot trades, foreign banks are restricted in terms of their branch licences and scope of renminbi businesses. For example, HSBC has the biggest foreign bank presence in China with 10 branches. In contrast, ICBC has over 8,000 branches throughout China.

However, Safe is considering various ways to enable foreign banks to access RMB for settling forward contracts. “It is still not certain how it’ll work. Perhaps one way would be to allow foreign banks to do another forward to hedge the position. The regulators are looking at different ways of doing it,” says the Chinese banker.