NexChange Interview Series: Alicia Garcia-Herrero, Part 1

“The strategic competition, which is the essence of the trade war, creates the need for more reserve currencies. And CBDC could perhaps accelerate that process.”

Olga’s interviewee this time is amazing Alicia García Herrero, Chief Economist for Asia Pacific at Natixis. Alicia also serves as Senior Fellow at European think-tank BRUEGEL and non-resident Research Fellow at Madrid- based political think tank Real Instituto Elcano. She is currently Adjunct Professor at the Hong Kong University of Science and Technology and member of the advisory board of Berlin-based China think-tank MERICS. Finally, Alicia is an advisor to the Hong Kong Monetary Authority’s research arm (HKIMR) and the Asian Development Bank (ADB) as well as a member of the board of the Hong Kong Forum and co-founder of Bright Hong Kong. 

Alicia holds a PhD in Economics from George Washington University and has published extensively in refereed journals and books (see her publications in ResearchGate or Google Scholar. Alicia is often featured on Bloomberg and CNBC. As recognition of her leadership thoughts, Alicia has recently been nominated TOP Voices in Economy and Finance by LinkedIn. 

In September 2019, Alicia presented her view on central bank digital currencies at the Block O2O event “China’s Blockchain Future”. 

Olga Yaroshevsky: I can’t help but ask about the global economic situation with the US and China trade war, about the policy that the US has been implementing over the past several months. What is your opinion about that, what’s been going on, and what we’re looking into, what is going to happen in the nearest future?

Alicia Garcia-Herrero: The trade war is, first of all, not a true war yet, which is great. And it’s not only a TRADE war. It is a full-fledged strategic competition between the two major hegemons in the world, the US and China. Interestingly, the new alliances, as part of this competition, are being created around these two hegemons. Or, put it this way, the old alliances that existed, one of them is obviously the Transatlantic Alliance, based military on NATO, are falling apart and are now much less strong than they used to be. Because the whole world is worried about taking the wrong side. 

Even the new alliances, like Russia and China, are tentative because no one knows exactly whether they’re ready to take one side. Literally, it’s a «shifting sands» type of international environment, which started with the trade war. 

This situation is here to stay. The two hegemons will continue to find areas of disagreement way beyond trade. We are already, and this is scary for the world, at the level of financial de-linkage. The cost of it – the things that were being created to further globalise the world, might now be used to protect one of the hegemons.

If before we were in the world where there was no problem in using the existing reserve currency, the US dollar, today we’re in the world where this might be an issue. If you are a hegemon that doesn’t have to have an international currency yet. And this massively changes that rational of things for both. Think about a US ally, for example Israel. They have most of the reserve in dollar. And then they want to hedge a little bit, hedge part of their wealth, income and business to the new hegemon. 

With international currencies, you tend to get to the extreme. You could have one single major reserve currency, and this has been the case with the dollar for a long time. Other than the euro, the rest of the reserve currencies are minimal – even the British pound, the Swiss franc or the Japanese yen. In the world where there is no strategic competition you can do that. Efficiency gains are superior to whatever risk you run by being only one-sided. The risk is so small, because there is no other side. 

But in today’s world, where we already see another prominent economic side, the idea of having a single reserve currency and depending on it becomes more difficult. Especially for the other hegemon. Anybody who is surrounding China within the alliance may fear to be dependent on one and only – again, excluding euro – reserve currency. 

This strategic competition, which is the essence of the trade war and which is why I’m not even talking about tariffs, because this is just the surface, this competition creates the need for more reserve currencies. And CBDC could perhaps accelerate that process. And that’s why it’s becoming increasingly interesting. This is not the case of all central banks in the world, we could argue that this is the case of Norway, let alone Uruguay and their e-peso. For PBoC it’s a different matter: why not test something that could perhaps, if needed, leapfrog me pursuing that role of international currency? 

OY: So, this can’t be a one-sided street anymore, right? So China created all the buzz around its CBDC only to let the US know that Chinese economy is independent, and the government is capable of creating a currency that can actually compete with the US dollar?

AGH: That was exactly my point. The way China started exploring CBDC, the degree of back and forth and secrecy, to me personally looks like theatre. They want to create an atmosphere for something to look bigger, to let the world know that this could be important. And they are not creating a reserve currency yet, they are creating an embryo of a digital currency. They can impose it to the world as a payment actually very quickly, if the world decides to accept it. 

There is a very important principle in the theory of international digital currencies. For China to denominate renminbi for investment or funding purposes they actually need to borrow. I wrote about it, the work is called «The renminbisation of China’s debt.» China’s debt in dollar is very small, 10% of GDP. This debt is mostly in dollar. For you to fund the renminbi products, for you to fund and for the rest of the world to buy, you need to have more funding needs, need to borrow more. To be in a position where your savings and much lower than your investment needs, which is not yet the case of China. Which wasn’t the case of Japan, and this explains why the Japanese yen didn’t go very far. Even when in mid 80-s Japan’s economy was, at least for a year, bigger than the US. Why didn’t the yen become an international currency? Because Japan didn’t need to borrow. 

For payments, China needs recipient countries, those receiving Chinese tourists with their currency, or for importing – they need to accept this e-currency. Like in countries with a lot of dollarisation, for example Bolivia. 

But for investment we need more products denominated in renminbi, whether digital or not. And if with the payments they can proceed pretty quickly, the investment part is going to take time, because we don’t have underlying assets. And I don’t think the e-currency can push that, as this is the macroeconomic issue – you need Chinese savings to go down, for China to fund itself on the rest of the world. For the difference that it would not be in dollar, but in renminbi. The digitalisation might not push this further, or make this faster, only for the payments. 

It’s easier to impose if you’re the first out of the central banks in the world, and if the countries agree, where the renminbi circulation is large.