Basket case

China doesn't yet belong in global currency club

China isn't yet ready for the global reserve club. The People's Republic is pushing to have the yuan included in the International Monetary Fund (IMF)'s quasi-currency, the Special Drawing Right (SDR), when its composition is reviewed later this year. But that doesn't mean it deserves a prominent place in central bank vaults.

US Treasury Secretary Jack Lew suggested on March 31 that the yuan isn't yet ready for inclusion in the basket of currencies which make up the SDR, a kind of voucher entitling the owner to hard cash in an emergency. If full convertibility were a prerequisite for membership, he would have a point. Instead, the IMF's main criterion is that constituents be "freely usable", which China's currency basically is. It's easy to come by, with over a dozen offshore clearing centres and 23 governments maintaining swap lines with China's central bank, according to UBS. Moreover, the decision is likely to be political rather than financial. The US calls the shots on many things at the IMF, but can't veto changes to the SDR basket.

A bigger question is: if the IMF accepts the yuan as a monetary lingua franca, should anyone else? Maybe not. An independent central bank, which China lacks, should be a prerequisite for a global reserve currency. Holders need reassurance that the tender won't be subject to huge gyrations at the whim of the country's economic planners.

China hasn't yet convinced on that score. The central bank has recently refrained from large interventions, and volatility is increasing, both healthy developments. But if a financial crisis were to unfold in China, resolve might weaken. China's total debt has passed 280 per cent of its GDP, according to McKinsey. Manufacturing is weak, and the real estate sector looks deeply troubled. The big test on how China manages a major slowdown is probably coming soon.

Advocates of the yuan can point out that the US hasn't been a great guardian of other countries' reserve assets either. Its huge programme of quantitative easing weakened the dollar and gave China an opportunity to present its own currency as an alternative. That may mean that Lew's opinion carries less weight. But whether China would perform any better is yet to be seen, whatever the IMF decides.