Canada is smart to get into redbacks

CTL Blog Post 26C.J. Gavsie, BMO Capital Markets’ head of foreign exchange products, had an interesting proposition recently in the National Post.  Gavsie suggested that a key way for Canada to increase its exports to China, the world’s second largest economy behind the US, is to open a trading hub. This would make it easier to convert Canadian dollars into the Chinese currency the renminbi, sometimes referred to as the redback.

Well, it looks like Stephen Harper and the Conservatives were listening to Mr. Gavsie. In early November, Canada and China signed a $30 billion currency swap agreement that would set up a clearing house between the two countries.

On its face a trading hub might just be another tool in Canada’s international trade arsenal, but it is a fairly strong one. The benefits of opening a trading hub would help Canadian businesses save money and encourage trade with China. The renminbi is not available on world markets and is only convertible with a select basket of currencies. The most commonly used currency is the US dollar.

Therefore if a Canadian company wants to do business with a Chinese company, it has to purchase US dollars to pay the Chinese company. That has a double foreign exchange risk and usually results in the Canadian company losing a lot of money on fees. If a Chinese company wants to purchase products from a Canadian company the Chinese company would have to do the same conversion in reserve. As one might think that process discourages trade with China.

With the new clearing house that double foreign exchange risk will be removed. In addition, as has been the case with other countries that has done this such as Singapore and the UK, opening a renminbi trading hub will likely also increase trade between Canada and China.

The potential impact of this is something we can no longer ignore. While the US is still our largest trading partner, China’s importance is increasing. Not only because it is the world’s manufacturing centre, but also because it is more and more becoming the major consumer of a lot of the world’s products. If Canadian companies want to stay competitive they have to be able to serve the Chinese marketplace.