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Hong Kong’s “Libra” Cross-border Stablecoin, the First Movement of China’s DCEP Go Abroad?

Introduction

With the closing of China’s National People’s Congress and the National People’s Congress in Beijing last weekend, one political proposal sponsored by Nanpeng (Neil) Shen, member of the National Committee of the Chinese People’s Political Consultative Conference and founding partner of Sequoia Capital, has caused heated discussions in China’s blockchain industry.

“The Proposal of Cross-Border Digital Stable Currency in Hong Kong” (In short “HK Cross-Border Stablecoin”) recommends that private companies establish a Libra-like alliance, made up Chinese renminbi, Japanese yen, South Korean won and Hong Kong dollar to form a basket of digital currency, which are used in cross-border trade, initially supervised by Hong Kong Monetary Authority (HKMA) and the People’s Bank of China (PBoC) in a sandbox. The HK Cross-Border Stablecoin can promote the PBoC’s Digital Currency/Electronic Payment (DCEP) to achieve cross-border applications in the Guangdong-Hong Kong-Macao Greater Bay Area (粤港澳大湾区).

The significance of this proposal is very different from that of the PBoC’s internal testing of DCEP’s App and the DCEP promotion meeting of the Xiong’an New District in April. The proposal strategically emphasis on building a Hong Kong-based new financial system dominated by private companies to radiate East Asia. It may have a huge geopolitical impact on the of the internationalize DCEP and the entire regional trade landscape.

Who initiates the HK cross-border stablecoin?

The first thing worth noting is the background of the political sponsor. Nanpeng (Neil) Shen, one of the top venture capitalists in the world, as the only political sponsor of the venture capital industry to participate in the “two sessions”, surprisingly focused on the cross-border stablecoin.

The proposal indirectly highlighted Sequoia Capital’s interests on the DCEP. In fact, Sequoia Capital has a long-standing layout in the field of blockchain and cryptocurrency. Although it is relatively low-key externally, public information shows that as early as 2014, Sequoia Capital was Huobi’s largest shareholder and also successively invested in Filecoin, Orchid Protocol, IOSToken, Ontology, Conflux etc.

The establishment of the “Asian version of Facebook’s Libra” described in this political proposal can also be seen as the desire of private companies and financial institutions to participate in DCEP and a trial to the regulators. If private companies can participate, Sequoia Capital can quickly build an alliance that meets market needs through the accumulated technology project resources to obtain early dividends.

What is the relationship with DCEP?

When the PBoC first assigned DCEP, one of its main purposes was to establish a more efficient international settlement system that aims to eventually replace the existing dollar hegemony phenomenon. The PBoC’s Digital Currency Research Institute (数字货币研究所) is actively recruiting ahead of international business and cooperating with the trade finance experimental platform in Guangdong-Hong Kong-Macao Greater Bay Area and the official digital trade finance platform in both Hong Kong and Singapore. 

In reality, most countries hold a conservative attitude towards DCEP. Since it is a centralized ledger controlled by the PBoC, it poses a challenge to the privacy needs of both overseas companies and other governments. In addition, the internationalization of DCEP will be largely affected by China’s special exchange rate marketization due to the restrictions on capital outflow, limited usage scenarios of offshore Renminbi, and the reduction of foreign trade demand on the currency after the epidemic. Referring to the development of the Belt and Road Initiative, this DCEP’s global strategy will gain the most support from the state-owned companies and large Chinese private ones, while most foreign-invested enterprises and financial institutions will be holding an opposing opinion. 

The private sector’s development of the HK Cross-Border Stablecoin based payment system will be more backed on Hong Kong’s financial center position and the long-term exploration of a distributed ledger. Hong Kong as the largest offshore Renminbi center, the total amount of Renminbi trade settlement processed by banks in 2019 in Hong Kong was 5.38 trillion yuan, accounting for 89 percent of the total cross-border Renminbi settlement during that year. According to SWIFT, Hong Kong also remains the largest offshore Renminbi Intermarket clearing center globally, with a 74.98 percent share of offshore Renminbi transactions outside Mainland China. In addition, HKMA has explored the application of decentralized ledger and blockchain with several central banks, blockchain companies and private financial institutions in the field of cross-border fund transfer since 2017. During the third quarter of 2019, HKMA has conducted PoC development with eight banks in Thailand. Compared with DCEP is mainly focusing on the retail market, HKMA cares more about the application of CBDC in cross-border fund transfers.

Hong Kong’s version of “Libra” is built on this background. This regional stablecoin firstly proposed by the former Chief Executive of the Hong Kong Monetary Authority, Norman Chan. He encouraged to expand the use case of regional stablecoin in international trade among private companies. For the private sector, it could reduce the high cost of currency conversion in traditional trade, minimize the risk of global inflation caused by the epidemic, and ensure the stability of the purchasing power. Therefore, the digital stablecoin will in great demand for the multinational companies whose main businesses are in East Asia. Moreover, the framework of this digital stablecoin should be established based on stablecoin alliances supported by large financial institutions and multinational enterprises. The legal CBDC of countries such as DCEP is then pledged in the permissioned blockchain and constitutes a basket of digital currency. In this way, the HKMA and other regulatory agencies can conduct real-time supervision through the pledge information on the chain. It will not only reduce the exchange rate risk but also form a new settlement method in the corresponding multinational companies in the international trade scenario. In the future, the PBoC can give full play to the unlimited legal liability feature of DCEP and take the HK Cross-Border Stablecoin as a way to participate in the financial activities in China.

Different from some analysis stated that the HK Cross-Border Stablecoin will affect the blockchain and digital currency industry by replacing the cryptocurrency, USD Tether. The author’s opinion is that the HK Cross-Border Stablecoin should have little impact on the current cryptocurrency market. The dollar-backed stablecoin USDT, issued by the Hong Kong-based company, Tether, continues to dominate the cryptocurrency stablecoin market, even after suffering from a great controversy because of the lack of transparency and USD deposit. Moreover, the main application scenario of the HK Cross-Border Stablecoin is not retail, but cross-border trade with a large number of compliance requirements, and strict supervision, which does not coincide with application scenario of USDT. 

What the HK Cross-Border Stablecoin will impact on the geopolitical financial landscape?

From a macro perspective, affected by the epidemic, the monetary and fiscal policies of various countries have been eased to a new level. The continuous interest rate cuts in the Federal Reserve have brought negative interest rates into market expectations, and the fiscal expenditures of major countries have exceeded 20% of GDP this year. The high inflation rate and the trend of de-globalization have made the situation of multinational companies more difficult. The current primary need of multinational companies is to maintain real purchasing power. The HK Cross-Border Stablecoin can fully solve this problem.

For China, with the implementation of the phase 1 trade deal between China and the United States, further capital account liberalization and requirement of exchange rate stability are inevitable for China. It requires better cross-border capital liquidity. After the epidemic, China will carry out a series of strong and effective monetary policies to stabilize the economy. At the same time, it is also necessary to ensure further capital account liberalization and maintain exchange rate stability. To achieve this goal requires massive open market intervention, reduce China’s foreign exchange reserves, and dump a large amount of US dollars, which will have a negative impact on the effectiveness of the monetary policy. The creation of HK Cross-Border Stablecoi will further increase China’s Renminbi internationalization and increase foreign exchange reserves. Under the premise of foreign exchange control and reducing capital outflows, it will more specifically improve cross-border capital liquidity. 

For Hong Kong, the recent Hong Kong security law has made the relationship between Beijing and Hong Kong even tenser, and financial institutions and multinational companies in Hong Kong will be affected. Just as the former Hong Kong Chief Executive Leung Chun-Ying asked HSBC on Twitter a few days ago to express a political position on the security law, and also the US President Trump’s cancellation of the Hong Kong trade preferential agreement due to the security law, there will be more private institutions in the future that need to take active approaches to avoid systemic risks and ensure the liquidity of cross-border funds. The introduction of the HK Cross-Border Stablecoin will further strengthen the links between mainland China and Hong Kong. In terms of fintech, the HKMA will be influenced by the PBoC’s DCEP to formulate corresponding technical standards and protocols; in terms of cross-border trade, Hong Kong can attract more East Asian multinational companies and reinvigorate a China’s international trade pioneer role. Besides, the increase in cross-border Renminbi settlement and Renminbi deposits in Hong Kong will also enhance Hong Kong’s position as an international trade center, thereby promoting the local economy and easing the political situation.

For the geopolitics of East Asia and the world as a whole, the HK Cross-Border Stablecoin may have a greater impact. At present, the China-Japan-South Korea Free Trade Agreement has entered a standstill due to the Japan-South Korea trade war last year and this year’s epidemic. the HK Cross-Border Stablecoin can act as a glue to bound the multilateral trade relationship. As an important trading partner of Japan and South Korea, Hong Kong will inevitably formulate corresponding laws and regulations for private companies joining the alliance of HK Cross-Border Stablecoin. It will also lead to the central bank of Japan and South Korea to indirectly understand and refer to the design of China’s DCEP, promote regional capital flows in East Asia, and reduce the economic dependence on the US dollar. Furthermore, compared with the strong reaction of the United States and the United Kingdom to the Hong Kong security law, Japan and South Korea did not follow their allies’ clear stance, which also has a large reason for the economic and trade concern. The HK Cross-Border Stablecoin will further deepen the regional economy’s geopolitics impact. The biggest negative impact on the HK Cross-Border Stablecoin is the US and Taiwan authorities. In many industries, Taiwan and Japan/South Korea have competitive relationships. The HK Cross-Border Stablecoin will further exclude Taiwan’s competitiveness in the regional economy and trade. When the regional stablecoin matures and developed, the dollar’s position in cross-border trade may be affected, at least in the East Asian market, which accounts for 20% of global GDP.

In general, the proposal of HK Cross-Border Stablecoin represents the potential role that private companies may play in the future of China’s DCEP going overseas. Although there may be many changes from the political proposal of“two sessions” to the actual policy, the discussions in China deserve enough attention. The HK Cross-Border Stablecoin may have a potentially significant impact on the future of China’s economy, trade and even geopolitics in neighboring East Asian countries.

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