Digital RMB: Assessing the Benefits—And Challenges—Of China's New

CFO Insights January 2021

Digital RMB: Assessing the benefits—and challenges—of China’s new currency

Throughout last year, China reported The possibilities are not lost on CFOs. In important implication of DC/EP for MNCs substantial progress on its digital renminbi fact, in Q4 2020 CFO Signals report, almost concerns changes to China’s electronic (RMB) and electronic payment system 40% of respondents expect the RMB’s payment capabilities and usage. Chief (DC/EP), and is now testing it in a growing use as a trading currency to increase, and among those is greatly enhancing the number of cities. And as these new 41% expect digital currencies for business ability of the People’s Bank of China’s capabilities are introduced and evolve, CFOs transactions overall to rise (see Figure 1). (PBOC) to monitor payments and clearing at multinational companies (MNCs) have a And in this issue of CFO Insights, we’ll discuss data, which will strengthen its ability to fight leading role to play in understanding how to both the introduction and evolution of fraud, illegal foreign exchange transactions, help capture value from them. electronic payments in China, as well as the tax evasion, and capital flight. implications for MNCs going forward. First, combined with the government’s China’s ruling party has long focused on recent moves to regulate the country’s Timeline: Diversification of electronic direct control over financial services as a dominant e-payment processors, the DC/ payments major lever for economic management, EP could help MNCs make inroads into the While a great deal of attention has been with just a couple of dominant e-payment country’s large and growing e-payment devoted to China’s digital RMB―which will systems receiving regulatory approval and market. In addition, the initiative could be an electronic form of money (cash in accommodating banking licenses as far back potentially reduce MNCs’ business risks circulation) that official reports claim will as 2011. Mobile transactions reached $49 caused by the complexity and costs of both eventually replace paper currency―an trillion in 2019, accounting for four of every domestic and cross-border settlement. Digital RMB: Assessing the benefits—and challenges—of China’s new currency

Figure 1: How CFOs view the use of digital currencies going forward 3. To support operations, MNCs will need to make major system adjustments The renminbi’s use as a trading to comply with China’s cybersecurity currency will substantially increase 6% 16% 40% 34% laws, while protecting their global over the next 3-5 years intellectual property and networks from The euro’s use as a trading compromise or intrusion. currency will substantially increase 5% 25% 52% 18% over the next 3-5 years 4. External developments are contributing Use of digital currencies for transacting considerable uncertainty. China is business will substantially increase % 20% 32% 39% tightening its mainland eco-system of over the next 3-5 years cybersecurity- and other internet-related 0% 50% 100% regulations, while global infrastructure Strongly disagree Disagree Neutral Agree Strongly agree providers intensify competition and potentially establish incompatible Source: CFO Signals, Q4 2020, CFO Program, Deloitte LLP standards. Both China and the United States are expanding the scope of five payments in China. Those licensed Implications for MNCs: Expanded national security concerns and pressing companies have leveraged their e-payment e-payment market opportunity for localization and domestic ownership platforms to also become major and highly Centralizing and strengthening the PBOC’s of key networks and platforms. For profitable providers of a broad range of oversight of electronic transactions example, the State Department’s financial services, most of which are linked has opened the door for more MNC Clean Network project is rolling out to electronic payment systems. market participation in e-payment and wide-ranging constraints on digital related financial services. In the last year, connectivity, targeting China. Current Since 2017, however, rules bearing on international payment processors and card hybrid arrangements for cross-border the electronic payment systems’ cash issuers made major progress tapping into payments could see improvements and management have tightened considerably. China’s enormous domestic e-payments benefits from these new initiatives. Regulations now require financial services market, either through PBOC-approved firms to place 100% of their money under acquisitions of domestic payments management, including wealth management companies or direct arrangements with products, digital wallets, and retail float, in the NUCC itself. CFOs and executives with escrow in state-owned enterprise (SOE) treasury responsibilities should consider how banks. Moreover, in June 2018, the PBOC this enhanced role for international payment mandated that all third-party payments be providers might serve their growth interests cleared through China’s NetsUnion Clearing in China. Corporation (NUCC)―which the PBOC supervises―pulling back under state control In order to participate in China’s growing a profitable slice of the electronic payment e-payment marketplace, regulations require process and providing a new window for the MNCs to use operational platforms that government to oversee electronic payments are separate from those they use outside at a highly granular level. Centralizing third- China. They will also need to address four party payment settlement through NUCC pressure points: took that role away from the SOE banks 1. Low-cost payment services offered by and their previous payment clients. The existing providers mean MNCs will require moves could mean more streamlined and efficiencies in order to compete. The two transparent settlement terms and processes major domestic digital currency providers for all parties. dominate the marketplace and have huge Taken together, these developments show networks of brick-and-mortar retail and PBOC support for private sector innovation industrial outlets, as well as a dominant in providing enhanced financial services presence in online transaction sites. to the public. According to official reports, 2. Building market share will require creativity, NUCC will operate only the clearing platform, effort, and local organizational capability. leaving electronic payment services to nonstate retailers.

2 Digital RMB: Assessing the benefits—and challenges—of China’s new currency

FIGUE 5 Figure 2: Where are digital assets being embraced? Potential savings; future possibilities Digital assets as alternative to or replacement for fiat currencies, by country Electronic payments, potentially supported In Deloitte’s 2020 Global Blockchain Survey, China and Brazil lead the countries and regions Brail, China Mainland, and UAE lead the countries and regions that consider digital assets a by China’s extensive blockchain investments, thatpromising consider alternative digital assets to or replacement a promising foralternative fiat currencies. to or replacement for fiat currencies. will likely take costs out of current transfer Percentage of respondents who strongly or somewhat agree that digital assets will be an alternative to systems. Diversification of payment options or replacement for fiat currencies in the next five to 10 years. and services innovations could benefit a wide range of MNCs engaged with China, including China Mainland retailers, consumer product companies, 4 financial service companies, and even MNCs Brazil sourcing in China. Along with lower costs, 4 expected benefits could include improved United Arab Emirates counterparty risk and payment transparency, which have traditionally created challenges for MNCs operating in China, as well as Singapore efficient transaction processing.

China’s digital currency program may Ireland eventually impact currency and payments processing involving cross-border payment Israel systems and could potentially replace 4 the SWIFT banking payment system as a Overall new global standard. If implementation 3 regulations allow RMB wallets for overseas users outside of China, for example, that United Kingdom would enable a range of direct transfers. 1 Overseas branches of Chinese state-owned United States banks are increasing services to MNCs in 1 countries such as Cambodia, presently using Germany SWIFT. Those developing client relationships 1 could be easily augmented with new payment systems as they become available, giving Mexico the Chinese banks a competitive edge. (See Figure 2 for comparative data on where other Hong Kong SAR countries are in digital currency investment.)

Of course, there are still hurdles along the Canada way, many related to current capital controls and the RMB’s current minor role outside Switzerland China. Given the PBOC’s regulatory role, however, its DC/EP initiatives could set the pace for the ongoing evolution of domestic South Africa 1 and international payment systems that would affect or complement services of Note:Note: N1,488.N=1,488. private providers, other central banks, Source: Deloitte’s 2020 Global Blockchain Survey. Source: Deloitte’s 2020 Global Blockchain Survey and incumbent transfers systems. The Deloitte Insights deloittecominsights first phase of pilots began last spring in At the same time, there is room for caution. tools. With many questions remaining four mainland Chinese cities and has since Direct and indirect transaction costs and about how these digital technologies, been expanded to nine more cities, while contracting costs for Chinese subsidiaries central bank-backed digital currencies, the cross-border rules and regulations are are concerns for MNCs, especially for cross- and non-sovereign cryptocurrencies yet to be determined. In parallel, China’s border transactions. Commercial banks will interact, these moves merit careful State Administration of Foreign Exchange are using digital tools, including AI and the attention on the part of executives tasked is piloting processes for simplified foreign distributed ledger capability of blockchain, to explore emerging financial management exchange transactions. to reduce transaction and contracting costs options to manage costs in an increasingly and enter into new alliances with major competitive global marketplace. MNCs to deploy the cost-reducing digital

3 Digital RMB: Assessing the benefits—and challenges—of China’s new currency

China’s economy: What’s the view from here?

How do CFOs and economists view Yet, the strength of China’s economy has potential for change. Yet the Biden team China going into 2021? come with a cost in terms of rising debt. has downplayed the possibility of a swift Moreover, the government is evidently change in US policy toward China. They In his “Weekly global economic keen to avoid the kinds of financial pitfalls prefer to first focus on domestic issues as update” for January 4, 2021, Ira Kalish, that often emerge when credit creation is well as solidifying political support before Chief Global Economist of Deloitte excessive. For example, the government taking potentially unpopular actions with Touche Tohmatsu Ltd., wrote: “China’s is allowing bad corporate debtors to respect to China.” economic growth continues at a default on loans and bonds rather than healthy pace.* Consumer spending For their part, North American CFOs encouraging lenders to roll over loans. has been boosted by confidence are more optimistic about China’s This suggests that the government wants that the virus is under control. economic outlook than their own. In the to create a sounder financial base for the Fixed asset investment has been Q3 2020 CFO Signals report, for example, coming decade. Although a system of helped by substantial funding for perceptions of China’s economy exceeded credit that punishes failure will eventually state-owned enterprises, as well as those of North America for the first time, generate more productive investment regional governments. And exports and the gap widened in Q4. In fact, in and faster growth, in the short term, it have performed well, in part owing the latest survey, nearly half cite good will create disruption. to China’s global competitiveness in conditions in China now, and 60% expect technologies for which demand has While the economic outlook for China in better conditions in a year, whereas only accelerated during the pandemic. 2021 appears positive, one big unknown 18% view North American conditions as This includes personal protective is the future of the relationship between good, with 59% expecting improvement in equipment (PPE) and technologies China and the United States. With a a year (see Figure 3). used for remote interaction. new US administration, there is clearly *The Chinese economy grew 2.3% last year, according the country’s National Bureau of Statistics

Figure 3: How CFOs view the Chinese economy Almost half of North American CFOs view the Chinese economy as good now; 60% expect it to be better in a year

100% 80% 0% 60% 4% 40% 36% 20% 0% 3 3 3 4 4 4 4 7 7 7 7 8 8 8 8 9 9 9 9 0 0 0 0 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 2 2 2 2 Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q Q 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4

1 Good now Better in a year Economic optimism index 1 Indexes reﬂect the percentage of respondents who rate current economic conditions as good or very good and who also expect better or much better conditions in a year.

Source: Source: CFO Signals, Q4 2020, CFO Program, Deloitte LLP

4 Digital RMB: Assessing the benefits—and challenges—of China’s new currency

The combination of these new technology global relevance of the currencies under tools and more accommodating regulations its management, as well as to enhance are also likely to improve risk mitigation the appeal of its commercial global service and capital flows. For example,automated offerings and those of China’s huge, SOE processes are being deployed in finance banks. It will be essential for CFOs to stay to reduce transaction costs and improve on top of the many complex and fast- key finance activities, including settlement moving developments involving digital of receivables and payables, reconciliation, currencies, especially the services that forecasting, and monitoring. major international commercial banks are developing with these new and The PBOC’s attention to digital currencies important tools. and electronic transactions signals that the central bank itself is counting on these technology developments to expand the

Contacts

Joe Guastella Ken DeWoskin Principal; Americas leader of the Independent senior advisor to the Deloitte Chinese Services Group Chinese Services Group Deloitte Consulting LLP Deloitte Consulting LP [email protected] [email protected]

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