The US-issued Deutschmark and Swiss Franc bonds called ‘Carter Bonds’ during Jimmy Carter’s administration provide a model. In 2007 some domestic institutions suggested that Beijing allow foreign companies to issue yuan bonds, and several months ago, it was suggested that foreign financial firms should be allowed to issue panda bonds. Recently Japanese economists appealed that the US should issue yen bonds and bonds of other currencies, tentatively called ‘Obama Bonds’. Issuing panda bonds would not only reduce China’s risk of holding too much of the US national debt and promote the RMB’s globalization, it would also help to relieve the liquidity crunch of other countries and promote financial stability worldwide.
The Panda bond would be RMB-dominated and issued by foreign financial institutions (governments, companies, and international organizations). Panda bond buyers should be Chinese financial institutions, mainly commercial banks.
Overseas financial institutions short of US dollars could buy them from Chinese counterparts with RMB after buying the fund.
Besides paying regular interest in RMB, bond issuers would repay the principal (in RMB) to the bond holder (Chinese commercial banks) when the bond matures.
Panda bond issuers can thus buy the RMB they need with US dollars from foreign exchange markets. For example, the Asian Development Bank (ADB) could buy 10-year RMB bonds from China’s interbank bond market, and then buy US dollas from China’s central bank with RMB. After the transaction, ADB would get a larger pool of US dollars at the price of new long-term RMB liability, while China’s central bank will reduce its US dollar holdings and in retuen for RMB.
Of course, risks are present in China’s purchase of RMB bonds, and many technical problems need to be solved, but the opportunity presented mustn’t be allowed to slip away.
Lending US dollars to foreign financial firms by issuing panda bonds will not only eliminate the risks associated with purchasing US national debt, (especially on the exchange rate), but also promote the internationalization of the RMB.
Besides issuing panda bonds, China must, of course, consider other ways of reducing its foreign exchange reserves. For example, Chinese commercial banks could grant RMB loans to overseas commercial banks. After getting RMB loans, foreign commercial banks could buy USD from China’s central bank and then repay both the RMB principal and interest to Chinese commercial banks year by year.
Chinese financial firms could consider buying European and Japanese financial assets, such as stock. Besides diversifying financial assets, China could also buy precious metals and other strategic materials with its foreign exchange reserve: in fact, the proportion of gold in China’s reserve is much lower than it is in western countries. China also needs to increase its strategic petroleum reserves.
Simply put, China can no longer increase its foreign exchange reserve by $300 billion every year, and should diversify its current foreign exchange reserve, regardless of potential short-term loss. During the once-every-100-year global financial reserve crisis, if you can avoid loss, you’ve already won.
The author is the Director of the Institute of World Economics and Politics of the Chinese Academy of Social Sciences. This post is from ChinaStakes, excerpted from his article first published on ChinaBusiness News in Chinese.