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No SDR For You: IMF Tells China To Wait At Least One Year Until Reserve Basket Inclusion

If there was any confusion as to whether the recently devalued Chinese yuan would be landing in the IMF SDR basket on January 1, the Fund just cleared it up.

As Bloomberg reports, a recommended extension of the current basket to September 30, 2016 was approved by the board on August 11:

IMF executive board extends current composition of its Special Drawing Rights for nine months until Sept. 30, 2016.

 

IMF staff had recommended extending the current basket, which was due to expire Dec. 31, to minimize disruption if yuan added.

 

Board decision gives SDR users "sufficient lead time to adjust in the event that a decision were to be taken to add a new currency to the SDR basket"

 

Board made decision Aug. 11, IMF says in statement

And from WSJ:

The fund’s executive board approved an extension of the current basket of reserve currencies including in its special drawing rights, or SDRs, to September 30, 2016. The board’s action confirms an earlier proposal for a delay in the five-year re-evaluation of the basket, which doesn’t include the yuan, and it said a decision on the future basket is expected by the end of the year.

 

 

Although Beijing has outlined plans to liberalize its financial markets, the yuan doesn’t meet the IMF’s key criteria for reserve currencies to be “freely usable,” meaning countries could face problems trying to buy and sell the currency in a pinch.

And while the move supposedly won't affect the Board's decision on whether to include the yuan, it's certainly interesting that the IMF happened to decide that there's "merit in agreeing on a limited extension of the current valuation basket," the very day (or, technically the day after) China devalued. 

Here's a little background for the uninitiated from Barclays:

The SDR is an international reserve asset created by the IMF as a supplement to member countries’ reserve assets. The total allocated SDR as of now is 204bn or about USD280bn.

 

However, the SDR is not considered as a currency or a claim on the IMF. Instead, it is a potential claim on IMF members for the so called “freely usable” currencies, currently the USD, EUR, GBP and JPY. In addition to its role as a supplementary reserve asset, the SDR serves as the unit of account of the IMF and many other international organizations.

 

When to use an SDR? An SDR allocation is a low-cost way of adding to members’ international reserves. For member countries that choose to hold their allocation, the net carrying cost is effectively zero. If a member’s SDR holdings are below its allocation, it incurs a net interest obligation. Conversely, members receive interest at the SDR interest rate on the amount that their holdings exceed their cumulative allocations. In the case of an IMF lending program, the member receives a loan amount proportional to (or times of) its quota (denoted in SDR) and pays interest according to its net position (with a scheduled principal payment).

 

Why does the RMB matter? 

 

China is eager to achieve international recognition of the CNY as an international reserve currency, on par with others included in the SDR basket, due to the increased use of the CNY in trade settlement and in bilateral central bank swap lines, and China's status as the world's second-largest economy. The IMF’s review of the options for widening the SDR will examine two factors: the export criterion and the “freely usable” criterion. For the former, the RMB is certainly qualified, as China is now the world’s largest exporting country. The most challenging factor for the RMB will be the second one, eg, a freely usable currency.