What does it mean for IMF to raise the weight of RMB in SDR currency basket？

21st century business herald reporter Bian Wanli reports from Beijing. Recently, the International Monetary Fund (IMF) has completed its regular review of the Special Drawing Rights (SDR), which is the first review since the RMB joined the SDR. It is noteworthy that the weight of RMB has been raised from 10.92% to 12.28% (an increase of 1.36 percentage points), and the weight of RMB remains the third after adjustment.

At the same time, the currency composition of the existing SDR basket remains unchanged, that is, it consists of US dollars, euros, RMB, Japanese yen and British pounds. In addition to the increase in the weight of the RMB, the weight of the US dollar has also been raised from 41.73% to 43.38%. The weights of euro, yen and pound were reduced from 30.93%, 8.33% and 8.09% to 29.31%, 7.59% and 7.44% respectively.

The new SDR currency basket came into effect on August 1 this year, and the next SDR valuation review will be carried out in 2027. The central bank said that China’s confidence and will in reform and opening up will not waver, and it will always insist on expanding high-level opening up. Continuously improve the convenience of investing in China market, and create a more favorable environment for foreign investors and international institutions to invest in China market.

SDR is the abbreviation of Special Drawing Rights, which means the right to exchange "freely usable" currency.

SDR is an international reserve asset created by IMF in 1969 to supplement the official reserves of member countries under the background of Bretton Woods fixed exchange rate system. Together with other reserve assets such as gold and foreign exchange, it constitutes international reserves. In 1973, the collapse of the Bretton Woods system and the shift of major currencies to a floating exchange rate system reduced the dependence on SDR as a global reserve asset. Nevertheless, SDR allocation can still play a role in providing liquidity and supplementing official reserves of member countries.

SDR is also used as the accounting unit by IMF and some international institutions. Initially, the value of SDR was determined to be 1 SDR equal to 0. 888671 gram of gold, which was also the gold content of 1 dollar under the Bretton Woods system at that time.

After the collapse of the Bretton Woods system, major industrial countries changed to floating exchange rate system. Gold no longer plays a practical "standard" role in the international monetary system. In 1974, the IMF decided to define the value of SDR by a basket of currencies, that is, the value of SDR expressed in US dollars is the sum of the exchange rates of each basket of currencies against the US dollar multiplied by their weights.

At present, the SDR basket currency consists of five currencies: US dollar, Euro, RMB, Japanese yen and British pound.

However, this was not the case with the original basket of currencies. The IMF initially selected the currencies of 16 member countries whose share in world trade exceeded 1% to form a currency basket. Due to various factors, it gradually evolved into four types, namely, US dollar, British pound, Japanese yen and euro. Since then, with the continuous expansion of China’s trade scale and the improvement of the free use of RMB, RMB was formally included in the SDR currency basket in 2016.

It is worth noting that the SDR basket is reviewed every five years or earlier when necessary to ensure that the basket reflects the relative importance of money in the world trade and financial system. The contents of the review are very extensive, including the number of SDR basket currencies, the composition of SDR basket currencies, the weight of each currency, financial instruments used to determine SDR interest rates and market exchange rates that determine SDR exchange rates.

Whether it can become SDR basket currency must meet two criteria: export criteria and freely usable criteria. If the issuer of a currency is an IMF member or a monetary union including IMF members, and it is also one of the top five exporters in the world, then the currency meets the export standards. A currency determined by the IMF as "freely usable" must be widely used to pay for international transactions and widely traded in major trading markets. A freely usable currency can be used for fund financial transactions.

The entry of RMB into the basket dates back to 2010, when China met the export standards at the time of SDR review. 2015 is a new round of SDR review period. Since RMB is still the only currency outside the SDR basket that meets the export standards, the focus of the review is still to assess whether RMB meets the "freely usable" standard.

In 2011, when Zhu Min, the first China-born vice president of the IMF, took office, China was pushing the RMB to join the SDR. As an active participant in the RMB basket, Zhu Min mentioned in an interview, "Before the IMF only considered the RMB in general, after the China government formally submitted the document, the IMF attached great importance to it and mobilized a lot of resources to turn the simple financial process into a comprehensive evaluation by the departments of policy, strategy, finance, market, research and statistics."

After a long time, in the review that ended in November 2015, the IMF board of directors decided that the RMB met the criteria for inclusion in the SDR basket, accounting for 10.92%. The RMB became the first SDR basket currency in history, ranking third in weight when it entered the basket. Since this is the first time in history to increase the SDR basket currency, in order to reserve enough time for SDR users to prepare for accounting and trading, the new SDR basket will take effect on October 1, 2016, and the new SDR exchange rate calculation method will be implemented on September 30, 2016.

The inclusion of RMB in SDR is a milestone in the internationalization of RMB, an affirmation of China’s economic development achievements and the achievements of financial reform and opening-up, which is conducive to enhancing the representativeness, stability and attractiveness of SDR and promoting the reform of the international monetary system. At that time, the central bank said, "China will take the renminbi into the basket as an opportunity to further deepen financial reform, expand financial openness, and make positive contributions to promoting global economic growth, maintaining global financial stability and improving global economic governance."

On May 11th, 2022, the IMF Executive Board completed the five-year review of SDR valuation. This is the first review since the RMB became the SDR basket currency in 2016. The weight of RMB was raised from 10.92% to 12.28% (an increase of 1.36 percentage points), and the weight of RMB remained the third after adjustment.

Guan Tao, global chief economist of BOC International Securities, said that the increase in the weight of RMB in SDR mainly reflected the increase in China’s export market share, RMB foreign exchange reserves and foreign exchange transactions in the past few years.

Zhou Maohua, a macro researcher at Everbright Financial Market Department, said, "The increase in the SDR weight of RMB means that RMB is more widely used in international trade, foreign exchange reserves, global foreign exchange transactions, investment and financing, and RMB is more popular. RMB plays an increasingly important role in international payment and settlement, reserves and investment and financing, and the internationalization of RMB is gradually accelerating; At the same time, the increase in the weight of RMB SDR reflects the international high recognition of the RMB market-oriented reform and the achievements of China’s financial reform and opening up. "

The central bank said that in the next stage, it will continue to unswervingly promote the reform and opening-up of China’s financial market together with various financial management departments, further simplify the procedures for foreign investors to invest in China market, enrich the types of investable assets, improve data disclosure, continuously improve the business environment, extend the trading hours of the inter-bank foreign exchange market, continuously improve the convenience of investing in China market, and create a more favorable environment for foreign investors and international institutions to invest in China market.

SDR is neither a currency nor a creditor’s right to IMF, but a potential claim for IMF member countries to freely use the currency. Special SDR can be exchanged with these currencies. It is understood that SDR is mainly used for transactions between IMF member countries and official institutions such as IMF and international financial organizations, including using SDR in exchange for freely usable currency, using SDR to repay the IMF, paying interest or paying shares to increase capital.

SDR, as a reserve asset, is mainly created through IMF allocation. The IMF allocates SDR to all member countries according to their share to supplement the reserve assets of member countries. The allocation of SDR can be divided into universal allocation and special allocation. The so-called universal distribution is the distribution to all member countries in proportion to their share in the IMF, while the special distribution is used to solve the problems that individual member countries did not participate in the previous SDR distribution because they joined the IMF later.

The direct benefit of universal SDR allocation is actually the purpose of allocation according to the terms of the IMF agreement, which is to supplement the existing reserve assets to help meet the long-term global demand. This has increased the buffer and enhanced the flexibility of the international economy. By helping to stabilize fragile countries, SDR allocation helps to reduce the risk of economic and social vulnerability, minimize spillover effects, and enhance the stability of the international monetary system.

It is worth mentioning that the overall allocation of SDR must be consistent with the goal of meeting the long-term global demand for replenishing existing reserve assets. It must also be widely supported by IMF members (the allocation needs to be approved by the board of directors with 85% of the total voting rights of SDR members). Once an agreement is reached, the distribution will be distributed to member countries in proportion to their share in the IMF.

The fund allocated a total of 660.7 billion SDR (equivalent to US$ 935.7 billion), including four general allocations and one special allocation. The IMF made two SDR general allocations in 1970-1972 and 1978-1981. After the global financial crisis broke out in 2007, the IMF allocated 182.6 billion SDR in 2009 to better cope with the crisis.

On August 2, 2021, the IMF Board of Directors approved the general allocation of SDR equivalent to 650 billion US dollars (about 456 billion SDR) to increase global liquidity. This is the largest SDR allocation in the history of the IMF (effective on August 23, 2021), which has solved the long-term global demand for reserves, helped build confidence, enhanced the resilience and stability of the global economy, and supported countries with limited liquidity to cope with the impact of COVID-19 pandemic.

In addition, SDR is also used as the accounting unit by IMF and some international institutions. The advantage of using SDR as a unit of account is that the SDR currency basket is more stable than a single currency, so it can reduce the impact of exchange rate fluctuations. Using SDR as a reporting currency can make statistical data such as asset value more objective. In addition, SDR can also be used as a means of payment. Countries can use SDR to pay their shares to the IMF, repay the IMF and the IMF to pay interest to member countries. It should be noted that SDR is only used by official departments and cannot be held by private entities or individuals.

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