The international financial system refers to a series of treaties, agreements and institutional frameworks signed between countries in the world to promote trade, transnational investment and other forms of capital transnational circulation. It is the cornerstone of economic activities between countries. As the name implies, while shaping the international financial order, the international financial system is often influenced by major financial changes that have taken place around the world. The existing international financial system originated from the "Bretton Woods system" that dominated the international community from 1944 to 1973. Up to now, a series of institutional norms led by the World Bank and the International Monetary Fund (IMF) still dominate the world financial order and make the western developed countries master the mainstream discourse power. The financial crisis that originated in the United States in 2007-2008 and immediately swept the world, as well as the rise of Emerging Market countries, all had a great impact on the existing international financial system. These two major changes have made the international community’s call for improving the existing financial order increasingly urgent.
Realistic needs of reforming the international financial system
The changes needed in the international financial system come from two aspects: first, intuitive reflection on the financial crisis, which requires countries to strengthen transnational coordination and supervision of financial activities. Secondly, it is an essential reflection on the deep reasons for the lack of supervision over financial activities in the past, which requires the international financial system to redistribute the right to speak of countries and interest groups.
Coordinated supervision of capital activities and fundamentalist "free market" activities constitute the two poles of financial reform; between the two poles, the international financial order itself will change periodically. The Bretton Woods system established in 1944 is a reflection on a series of economic recessions between the two world wars: the Versailles contract, which marked the end of World War I, failed to take into account the national conditions of various countries in the war compensation and creditor’s rights issues, resulting in all the war debts of Britain, France and the United States falling on Germany, which was unable to repay, resulting in a large number of bad debts, which triggered the banking crisis in 1931; at the same time, due to the "beggar-thy-neighbour" exchange rate policy, countries rushed to depreciate. Based on such consequences, the Bretton Woods system has formulated a strict supervision system for international financial activities, including an adjustable pegged exchange rate and restrictions on international capital’s manipulation of the bond market. With the passage of time, the economic strength of the United States declined relative to that of Japan and Europe, and the dollar linked to gold could not guarantee the balance of payments of the United States; when the Vietnam War made the balance of payments deficit of the United States serious, the United States, as the leader of the international financial system, tried to coordinate the exchange rate with other major western countries, but the Smithsonian Agreement was blocked by the Federal Reserve and was difficult to implement. This eventually led to Japan and major European countries adopting floating exchange rate system again.The Bretton Woods system also disintegrated. After the disintegration of the Bretton Woods system, the international community failed to form a stable and effective exchange rate mechanism, and the shortcomings of lack of coordination were reflected in the 1997 Asian financial crisis and other events. Since 2000, the call for international coordination has gradually surfaced; especially after the financial crisis in 2007-2008, some developed countries began to re-propose the establishment of an international coordination system based on the pegged exchange rate system. For example, then French President Nicolas Sarkozy declared in September 2008 that "we must rebuild the financial order, just like in Bretton Woods". At the G20 Summit held in Pittsburgh in 2009, countries held consultations on adjusting exchange rates; at the same time, the International Monetary Fund (IMF) reduced its criticism of financial control policies after the crisis. There are indications that countries are actively coordinating and interacting to improve the defects of the current financial system.
The international coordination mechanism is bound to involve the right to speak, which is another reason why the international financial system needs to be reformed urgently. The existing financial system is dominated by a few developed countries, while developing countries are at a disadvantage. Take the IMF as an example, its voting rights include equally distributed membership voting rights and share voting rights determined by capital contribution (special drawing rights); with the increase of countries’ shares, the latter becomes more and more important within the IMF, which makes developed countries with large shares master the right to speak. At the same time, more and more IMF resolutions need to reach a "special majority" (usually 70% and 85%), which enables a few countries with a large number of voting rights to master the IMF’s veto power and makes it difficult for the IMF to monitor their financial activities. At the same time, due to the lack of stable and consistent exchange rate policy in the international system, developing countries are forced to peg to the currencies of some developed countries, and such exchange rate systems often face risks in large-scale international capital flows. In addition, the existing financial system is also difficult to meet the financing needs of developing countries. Take Asian countries as an example. In order to maintain the current economic growth rate, Asian countries need 8 trillion US dollars of investment between 2010 and 2020, while mainstream financial institutions including the World Bank and the Asian Development Bank (ADB) can only provide 20 billion US dollars of loans every year. Facing the financial needs of emerging markets, the international financial system appears to be ill-prepared.
Faced with the call to reform the international financial order, mainstream international financial systems try to make improvements within the system. For example, at the London Summit in 2009, the G-20 decided to set up the Financial Stability Board. At the same time, the developed countries, such as the United States, are also reflecting on their own prominent problems in the financial crisis. For example, the financial regulatory reform promoted by the Obama administration in 2009 has given the US federal departments greater financial regulatory power and stricter restrictions, including the Financial Stability Oversight Council and the Volcker Rule prohibiting banks from proprietary trading. This kind of improvement scheme not only acknowledges the problems existing in the existing international system, such as the lack of effective supervision of financial practitioners, but also invites more developing countries to participate in international financial governance at the international level. Due to the resistance of vested interest groups and countries, these reform programs often progress slowly. A typical example is the aforementioned IMF voting rights reform. Although the reform plan was put forward as early as 2010, the articles of association of the IMF need 85% affirmative votes to be passed, and the United States alone holds 16.5% voting rights, so the reform must be approved by the United States; however, due to party struggles and its own economic interests, the US Congress has repeatedly postponed or rejected the reform plan. In 2012, on the grounds of the general election,The plan was not submitted to Congress; in March 2013 and January 2014, Congress rejected the reform plan twice, because the reform plan forced the United States to increase investment in the IMF to maintain its share, and Congress refused to inject capital. In addition, IMF reform has also been tied up by recent political issues such as parliamentarians and Ukrainian aid. Due to such circumstances, the improvement within the system may not be enough to reform the international financial system in a timely and effective manner.
Facing the deadlock in the system, China and other developing countries are actively exploring another way, that is, building a new international mechanism outside the existing international financial system led by the IMF to independently solve the economic development needs of relevant countries. As a region with rapid global economic development and the main victim of the 1997 financial crisis, Asian countries have an urgent need to ensure their own financial security and have also made practical institutional innovations. The ASEAN Swap Agreement (ASA) is the representative of regional financial cooperation. After the Chiang Mai Agreement in May 2000, ASEAN countries signed a number of bilateral currency swap agreements with China, Japan and South Korea; in the Chiang Mai Declaration in June 2003, the participating countries expressed their intention to establish a multilateral monetary framework, such as an Asian bond market. In recent years, China has actively advocated economic cooperation among developing countries and led the establishment of international financial institutions such as the New Development Bank BRICS and the Asian Infrastructure Investment Bank (AIIB). This "innovation outside the system" model is based on the current situation that the reform within the system is difficult, but it also inevitably causes the suspicion of some developed countries, the leaders of the existing financial system. For example, the AIIB has always been questioned by the United States, Japan and other countries with "transparency" as the main reason from the determination of intention, establishment to trial operation. At the same time, some hawks believe that this move is a challenge to the dollar-dominated international financial system and "set up another portal" outside the IMF and the World Bank.However, the newly developed international financial institutions do not actually have a replacement relationship with existing institutions. For example, both the World Bank and ADB welcomed the establishment of AIIB. The new institutions outside the existing system first complement the existing institutions, and at the same time form healthy competition with the existing institutions to better provide financial services to various countries and enterprises.
China’s demands and actions in the reform of the international financial system
China’s position in the existing international financial system has multiple characteristics. The first is the weak right to speak, and the typical example is the IMF’s special drawing rights. In the SDR allocation scheme of member countries that came into effect in 2009, China’s SDR is 6.9 billion, while that of the United States is as high as 35.3 billion. In addition, China’s SDR is lower than that of developed countries such as Japan, France, Germany and Britain (both above 10 billion). As mentioned earlier, this distribution makes China’s voting rights in the IMF weak. Secondly, China is a "latecomer" to the international financial system. For a long time, China has implemented a strict capital control policy, and the profit model of banks is relatively simple. National policy makers made many adjustments before and after the two international financial crises in 1997 and 2008, which effectively alleviated the impact on China’s economy. At the same time, however, some enterprises (such as some insurance, aviation and non-ferrous metal enterprises) have expanded against the trend and suffered heavy losses in the financial crisis in 2008, which fully shows that China has insufficient experience in actively participating in international financial activities. At the same time, China will be an active participant in the future international financial system. In 2011, China’s foreign direct investment exceeded US$ 60 billion, and in 2014, its foreign direct investment exceeded US$ 100 billion; The Ministry of Commerce said in January 2015 that if we consider reinvesting the overseas direct profits of Chinese enterprises and investing through third parties, China will become a net capital exporter in 2014.
Based on the above characteristics, on the one hand, China needs to learn from senior players in the international financial system, and on the other hand, it needs to strive for a favorable external environment for China with the help of the current international demands for change. In terms of specific means, China adopts the strategy of "two-pronged approach" of multilateral cooperation and unilateral assistance to promote international financial reform.
China is an active advocate of cooperation among developing countries. In recent years, China’s major institutional developments in the international arena include the BRICS Development Bank and the AIIB. The BRICS Development Bank is an international institution jointly advocated by BRICS countries including Brazil, Russia, India, China and South Africa. Its member countries are big developing countries on all continents, and their national interests and demands are quite different, mainly because of the concept of "BRICS countries" put forward by Jim O ‘Neill, former chief economist of Goldman Sachs in 2001. China has always been committed to implementing the BRICS cooperation mechanism and developing it into an effective, inclusive and win-win economic cooperation organization, such as pushing South Africa to join the mechanism in 2010. On the basis of this mechanism, China and other BRICS countries put forward the idea of BRICS Bank at the New Delhi Summit in 2012, agreed to this proposal at the Durban Summit in 2013, and formally signed the document at the Fortaleza Summit the following year. The legal capital of the BRICS Bank is 100 billion US dollars, in addition, countries have agreed to establish an emergency reserve of 100 billion US dollars that is independent of the BRICS Bank and does not need to be paid immediately (only when it is actually needed and meets the conditions). Emergency reserve is an internal arrangement for member countries to face international financial risks. While meeting the needs of member countries, BRICS also serves the infrastructure construction of other emerging market countries.
亞洲基礎設施投資銀行則是基於區域經濟需要，由區域內國家首先提出、主要服務於本地區建設的機構，其成員大小、發展程度有別，但地緣關系緊密，相互聯系密切。習近平主席於2013年10月訪問印度尼西亞時率先提出倡議。中國、越南、馬來西亞、新加坡、印度等21國於2014年10月在北京簽署《籌建亞投行備忘錄》，2015年4月共籌集區域內、外意向創始成員57國，包括域外成員20國。亞投行法定資本為1000億美元，初期認繳500億美元﹔與現有的同功能開發銀行相比，亞投行的制度設計更多地考慮到本地區發展中國家，尤其是較小國家的利益，主要體現在三方面：（1）區域內成員國佔有約75%的總共股份，為亞投行內的多數聲音﹔（2）亞投行董事會大部分席位將分配給亞洲各國，較小的亞洲成員國有更大機會發聲﹔（3）相比ADB等機構按照出資佔股比例決定投票權的制度，亞投行的投票權按各國名義國內生產總值和購買力平價加權計算得出，這也有利於區域內較小成員國獲得話語權。除本區域發展中國家外，部分老牌西方大國如英、法、德、意也加入意向創始成員的行列，這既有益於亞投行吸取金融體系運作的經驗教訓，It is also conducive to enhancing the transparency and credibility of the AIIB in the world.
At the same time, China is also committed to expanding its influence to meet the new demand brought by the growth of national strength. On the one hand, China actively establishes the image of a "responsible big country" in the financial field, and actively assists countries that have been hit by disastrous economic shocks internationally. During the Asian financial crisis in 1997, China provided export credit, materials and financial assistance to Southeast Asian countries through bilateral channels under the IMF framework; in addition, under the circumstances that countries were competing to devalue, the China government decided not to devalue the RMB against pressure, which objectively contributed to stabilizing the regional economy. China has also provided financial assistance to countries outside the region, such as Belarus, which fell into the European financial crisis in 2009, and Venezuela since 2007. China-led international financial institutions have also begun to receive attention in international aid. After the earthquake in Nepal in April 2015, the Nepalese government intends to seek assistance from the AIIB, which is under construction. Assistance from international organizations can only be implemented through consultation and coordination among member countries, and over time, institutions such as BRICS Bank and AIIB will also carry out related assistance business with countries in need.
On the other hand, China has actively promoted the internationalization of RMB through a series of bilateral agreements. In July, 2008, the Bank of China set up an exchange rate department to be responsible for "developing the offshore RMB market according to the process of RMB internationalization". In the same year, China began to negotiate with Russia and other countries on bilateral currency swap, and reached a currency swap agreement with South Korea in December. At present, China has reached bilateral local currency swap agreements with 28 overseas central banks. After a series of pilot projects, RMB settlement of cross-border trade was approved nationwide in August 2011. In 2012, China and South Africa reached an agreement to settle bilateral trade in RMB. Since 2013, the People’s Bank of China has reached agreements with many countries to establish offshore RMB settlement centers, including London Clearing Bank, Frankfurt Clearing Bank and Bank of Communications Clearing Bank. At the same time, China’s financial industry is also undergoing reforms to promote the convertibility and free circulation of RMB. Due to China’s sound monetary policy and exchange rate policy record, its economic status is increasingly consolidated, and the RMB as a reserve currency is increasingly valued by all countries. According to a survey of 72 central banks by HSBC, it is estimated that RMB will account for 10% of the global reserve currency in 2025. In April 2015, IMF indicated that it had received China’s application to include RMB in the SDR currency basket, and IMF Managing Director Lagarde affirmed China’s policy efforts to promote the free use of RMB.
In terms of foreign economic strategy, China has put forward the macro plan of "the belt and road initiative", and the above two efforts will serve this macro goal and create favorable conditions for China enterprises to carry out international financial activities. In line with the Silk Road Economic Belt, China will continue to develop financial exchanges among SCO members and strive for the early establishment of the SCO Development Bank. Due to the large gap between rich and poor, economic strength and resources in some countries, the relevant laws in some countries are still incomplete, and the preparation of the SCO Development Bank still has a long way to go, and China needs to deal with the problem of the overlap between Shanghe Bank and BRICS Bank. China and other members of the SCO are naturally complementary economically, and the investment and trade between China and Central Asian countries have also increased significantly since the new century. All countries have a realistic need to use regional currencies as settlement currencies and reduce transaction costs. For the energy exporting countries in the SCO, regional banks are also tools to stabilize the risk of price fluctuations. If it can be successfully established, the SCO Development Bank will promote the RMB to become the dominant currency in the region, thus promoting the internationalization of the RMB.
Policy suggestions on participating in the reform of the international financial system
What needs to be pointed out in particular is that participating in international financial activities means that China’s economic activities are in line with the international economy, and leading the international financial system is likely to mean that China will sacrifice some domestic economic interests or take risks. China’s self-positioning in international economic activities is still a "developing country", which is not only a developing country, but also an investor and capital market with great potential. At the same time, it is also a country in economic transition and facing many major domestic economic challenges. While participating in the international financial system and reforming the rules of the game together with other countries in the world, China also needs to be extra cautious in several aspects and remain awake to the potential risks of international financial activities.
First, China needs to deal with the coexistence of financial institutions established by China itself and China with the existing financial system. Some western countries regard China’s call to reform the existing financial system as a threat. In fact, China has always maintained a benign cooperative relationship with existing international financial institutions since the 1980s. Since 1981, China has applied for 457 loan projects from the World Bank, ADB and other international financial institutions, with a total loan commitment of US$ 65.75 billion and a grant of US$ 2.8 billion from international financial organizations. Most of these funds have been used for the construction of central and western regions, rural areas and key economic fields, which has promoted the balanced and sustainable development of China’s economy. In the foreseeable future, this kind of cooperation will not die out because of the newly established financial institutions in China. However, China inevitably has to answer a series of questions: Why should China set up institutions with similar functions when financial institutions such as IMF and World Bank already exist? Since the functions are similar, how do new and old financial institutions deal with each other? To achieve a "peaceful rise" in the financial field, China must convince the main participants in international finance on the above issues.
Japan-led ADB has discussed the relationship between the World Bank and regional banks, and its report suggests that the World Bank should focus on "eliminating trade barriers between countries and promoting global issues", while regional banks are committed to promoting "Asian countries to reach agreements on public services, while supporting ASEAN economies, infrastructure construction, Asian bond market construction and the implementation of Chiang Mai Agreement". In fact, the World Bank and ADB have not formulated a coordination mechanism in the division of labor between specific countries and issues. Although ADB’s capital is less than that of the World Bank, if it joins the World Bank and becomes its "Asian branch", its legal capital scale will be too large; on the other hand, the investment demand in Asia exceeds the loan supply capacity of either of the two banks, so the report thinks that the two banks can "muddle through" and negotiate the division of labor on specific issues. This model is also applicable to the newly established AIIB: the huge financial needs of Asian countries make it impossible for several banks to compete for survival. In specific projects, countries can choose banks according to their own conditions.
Another accusation against China’s leading banks is usually the issue of "transparency", which is also the core content of the US the State Council spokesman’s statement that "the AIIB cannot meet high standards". In fact, these China-led financial institutions attach great importance to openness and transparency. For example, the guideline of the AIIB is "Lean, Clean, Green", which is composed of a professional board of directors, a board of directors and a headquarters, and its operation is far from being monopolized by China or operated in a black box. Secondly, there is no uniform standard for "transparency and openness" by different people. Among many requirements for transparency, China needs to pay more attention to the requirements of member States and potential customers rather than groundless accusations. Western developed countries such as Britain and Germany are willing to join the AIIB, which itself shows that they are confident that they can participate in the establishment of sufficiently transparent and open financial institutions. The detailed negotiations of the AIIB are in full swing. China needs to reach an agreement with its allies first to ensure that the AIIB’s bylaws can satisfy the member countries on the basis of safeguarding national interests, which will be the best response to "transparency".
China’s economic rise itself is an impact on the world economic order, and the impact will inevitably lead to a rebound; no matter what action China takes, it must be prepared to be questioned and pressured. In the field of international finance, China needs to unite with countries with the same aspirations, face doubts in the form of international organizations or multilateral consortia, gradually establish the image of a "responsible big country" and strive for greater voice.
Second, the foundation of financial activities is still a strong national economic strength. China’s financial activities should aim at promoting the sustainable growth of domestic economy, the stability of political environment and the steady improvement of people’s living standards. Countries around the world pay close attention to the internationalization of RMB, and some parts of Southeast Asia have circulated RMB as a "small dollar", all of which are related to the rapid growth of China. Only when all countries in the world maintain confidence in China’s economy and national strength can China become one of the leading forces in international finance. At present, China’s economy is in a period of transition, economic growth is slowing down, the financing of the real economy is difficult, and the risk of liquidity trap is rising; before considering the international strategic layout, China should first try to solve these problems to ensure that its domestic economy can withstand the impact brought by international financial flows.
With the gradual improvement of the internationalization of RMB, RMB will become one of the major international reserve currencies (international settlement currency), and even become the dominant currency in some regions. In this case, China is likely to face the triffin paradox that Britain and the United States encountered in the past, that is, the conflict between short-term domestic economic interests and long-term international interests. Triffin pointed out in the late 1950s that when a foreign country wants to hold a certain reserve currency, the issuing country must issue more money, which will lead to a trade deficit in the long run; however, the value of the reserve currency needs to be stable and firm, which requires the issuing country to achieve a surplus as much as possible. When the issuing country of reserve currency needs to increase its expenditure for some reason, the financial system dominated by this currency is at risk. The British system under the gold standard collapsed after World War I, and the Bretton Woods system linked to the US dollar and gold also disintegrated in the Vietnam War. At present, international finance mostly adopts the "multi-reserve system", but a few currencies such as the US dollar have great advantages in the currency basket, and these reserve currency issuers inevitably encounter the trade deficit problem. If China becomes a "trader" in the international monetary field, it must bear the risk of trade deficit, make appropriate adjustments to the economic policy focusing on fiscal policy, and help China enterprises adapt to the new situation as soon as possible.
In addition, as a newcomer in the field of international finance, China also needs to provide appropriate insurance measures for domestic enterprises and banks that have just set foot in the international capital market. The international financial system often requires China to promote the free and open capital market to accept China. For example, Lagarde, managing director of IMF, once again urged the China government to deepen financial reform when commenting on RMB’s entry into SDR. At the same time, the government should always consider the affordability of the domestic economy and carefully promote the marketization of the capital sector.
Third, China needs to learn from international advanced practices and norms, which will not only help protect the interests of China countries and enterprises in the international capital market, but also help to put forward targeted financial reform proposals. At present, China is still in the trial-and-error stage in the international financial field, and many financial policies and activities have caused unnecessary risks. For example, China’s soft loan to Venezuela is difficult to recover because the original "oil-for-loan" plan could not be implemented and Venezuela’s own economy deteriorated, thus affecting the further cooperation between the two countries. An editorial in the Financial Times pointed out ironically that China should understand that it is not unreasonable for the World Bank, IMF and ADB to bind loans with additional terms. Objectively speaking, China has a huge amount of foreign exchange reserves at present, and international financial institutions led by China are also concerned. The issue of controlling loan risks will be put on the agenda sooner or later. For specific enterprises, the relatively unfamiliar international capital market also presents opportunities and challenges.
Facing the difficulties of inexperience, China government and enterprises should take timely measures to attract relevant talents and learn from advanced countries. The AIIB is the process of China’s "socialization" in the international financial circle. By including Britain, France and other countries, China can better refer to the example of the current financial system when discussing the articles of association with other members. At the same time, the AIIB also attracts talents from all over the world through specialized international institutions. The characteristics of the financial field are that it is an Unobservable Behavior manipulated by a few people, and the relevant knowledge is highly specialized. Many ways to strive for benefits must be mastered in concrete practice; at the same time, it is difficult to supervise. If the layman leads the expert, the financial behavior will be difficult to be restrained and the national assets will suffer losses. If we can attract a group of reliable and experienced professionals, China’s reform may be able to avoid twists and turns and speed up the pace.
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The reform in the field of international finance is an objective need to eliminate the global "North-South opposition" and the gap between the rich and the poor. In recent years, the financial crisis and the rise of emerging markets have provided opportunities for possible reforms. As an important member of emerging markets, China can benefit from a fairer international financial environment. However, negotiations concerning national interests have always been full of difficulties and obstacles, vested interest groups have a strong right to speak, and the reform within the system is not smooth. While striving for its own interests within the international financial system, China has also actively explored outside the system, and opened up an equal and win-win cooperation model with other developing countries, which suits its own needs and national conditions. In recent years, it has made several internationally remarkable achievements. However, the international financial reform is a long-term process, China still needs to learn and explore in the world financial field, and the internationalization of China’s financial field has a long way to go.
At present, China’s challenge in the field of international finance comes from its own inexperience and the imbalance of discourse power in the international financial system, and there is a complementary relationship between them: if China is committed to shaping a fairer discourse system, it needs to first integrate into the international financial system and learn from advanced countries; but if China can fully learn the operation mode of international finance, grasp the key of RMB internationalization and economic integration, and at the same time do a good job in its own economic construction, it will be natural to shape a more favorable external environment. At the critical juncture of domestic economic transformation, policy makers in the financial sector especially need to be modest and cautious, deepen financial reform steadily and promote the relevant layout of "the belt and road initiative".
Editor/Ma Bingying
China and the International Financial System: from Participation to Remodeling
Jin Canrong Jin Junda
Abstract: With the deepening of the economic internationalization of China, shaping the world financial system is closely related to its interests. As one of the typical emerging economies, China hopes that the international financial system will give due discourse power to the developing countries; at the same time, if China can enjoy the institutional support from the international financial system, the Chinese overseas investment will help to boost the development of the world countries. While striving for its own interests in the international fi nancial system, China has also actively explored other systems, and established an equal and win-win cooperation mode with other developing countries which caters to their respective development needs and is suited to their national conditions, making a number of influential achievements in recent years. As the international financial reform is a long-term process, China still needs to study and explore the world financial system and has a long way to go to internationalize its financial industry.
Keywords: international financial system, financial internationalization, capital market, the New Development Bank, the Asian Infrastructure Investment Bank
Jin Canrong, Associate Dean and Professor of School of International Studies, Renmin University of China. His research interests include American political system and culture, American diplomacy, Sino-US relations and relations between major powers, and China’s foreign policy. His major works include Multilateralism and East Asian Cooperation, and China Scholars’ Great Power Strategy. Jin Junda, Ph.D. candidate, Department of Political Science, Boston University, USA.