KGRI Working Papers
No.6

Prospects for a Multicurrency Clearing System in Asia

Version1.0
March 2017

Junichi Shukuwa1 and Masaya Sakuragawa2

Keio University Global Research Institute© Copyright 2017 Junichi Shukuwa, PhD, Professor, Faculty of Economics, Teikyo University andMasaya Sakuragawa, Professor, Faculty of Economics, Keio University

12

E-mail: shukuwa@main.teikyo-u.ac.jp
E-mail: masaya@econ.keio.ac.jp

Prospects for a Multicurrency Clearing System in Asia

Junichi Shukuwa and Masaya Sakuragawa1Abstract
In the aftermath of the Asian financial crisis, ministers of finance of major Asian
countries launched the Asian Bond Markets Initiative (ABMI) to avoid the risk ofcurrency crisis. But the ABMI does not facilitate currency clearing, especiallymulticurrency clearing. This chapter proposes a new multi-currency clearing system inAsia. That scheme will clear each currency on a simultaneous base, supported by theAsian central banks. The architecture for liquidity provision in multi currencies is thefirst step for Asian financial integration.

1. Introduction
The world economic center of gravity is shifting from the West to the East. As of2010, the share of the world GDP in Asia amounts to over 30 percent, and is predicted
to be over 50 percent in 2050. Looking at the international positions, Asian countries,including China and Japan, have run current account surpluses toward the US, andaccumulated huge net foreign assets, but any Asian currency is not still globally used.
The share of the global foreign reserves in China and Japan is over 50 percent, but theyhold almost of foreign reserves by the US Treasury bills.

1Junichi SHUKUWA, PhD, Professor, Faculty of Economics, Teikyo UniversityMasaya Sakuragawa, Professor, Faculty of Economics, Keio University

1

The autonomy in financial integration in Asia is not still established. When Chinaand Japan trade goods, the Chinese Yuan is first converted into the US dollar, and thenthe US dollar is converted into the Japanese Yen. The US dollar intermediates thesettlement between the Chinese Yuan and the Japanese Yen because of its superiorliquidity provision, and at the same time leads to the misallocation of Asian savings into
the regional investment.
The central concern is how the Asian financial markets are independent of thedominance of the US dollar. A developed financial market realizes risk sharing,liquidity provision, and an efficient capital allocation. The precondition for thedeveloped financial infrastructure is to establish a settlement system that is useful for
Asian currencies. Our answer is to establish the multicurrency clearing system in Asia.
The clearing arrangement across multiple currencies facilities financial transactions
among Asian countries, which is expected to develop the Asian financial markets, suchas the Asian bond markets and the currency arrangement.
Asia is defined as “ASEAN +3”, that include 10 ASEAN countries, Indonesia,Malaysia, Philippines, Singapore, Thailand, Brunei, Cambodia, Laos, Myanmar(Burma), and Vietnam, and “+3 ”, China, South Korea, and Japan. To reach anagreement on a successful financial integration, the cooperation between these 13countries is necessary. In particular, the China and Japan, the two largest economies inAsia, are expected to take the joint leadership in facilitating the regional financialintegration. Unfortunately, China and Japan face political conflicts and territorial
disputes. But the situation is expected to change. The new presidency in the US attacks
China and Japan for the large trade deficits of the US. China and Japan have a common2

interest in opposing the request by the US, and are in good positions to use thisopportunity to improve their bilateral ties and cooperation.

2. Experiences for Asian Financial Integration
In the aftermath of the Asian financial crisis in 1997, Asian countries understoodthe necessity to eliminate the risk of currency and maturity mismatches, the so-called,
double mismatches. The currency mismatch arises when the foreign-currencydenominated funds are converted into the home-currency denominated investment. Thematurity mismatch arises when the long-term investment is made by rolling over shortterm loans.
In May 2000, ministers of finance of several Asian countries agreed with theChiang Mai Initiative (CMI) that was decided to expand the network of bilateral swap
arrangement of foreign reserves. This arrangement was intended to eliminate the risk ofthe shortage of foreign reserves when the member countries face the financial crisis andthe currency attack. This initial agreement was bilateral between the two countries. In
2010, it was advanced to include the multilateral arrangement among the members.
In August 2003, ministers of finance of major Asian countries launched the Asian
Bond Markets Initiative (ABMI). It was aimed to develop efficient and liquid bondmarkets in Asia that facilitate the better utilization of Asian savings for the regionalinvestments. ABMI was expected to contribute to the mitigation of currency andmaturity mismatch in financing.
The Asian bond fund (ABF) was established as part of the architecture of Asianbond markets. The ABF is the joint investment fund that allows its members to pool3

part of the foreign reserves and invest in Asian sovereign and sub-sovereign bonds. The
first phase of the initiative, so-called ABF1, was released in 2003 and the ABF invested
in Asian sovereign and sub-sovereign bonds, but those denominated in US dollar. Asiancurrency authorities wondered “why the US dollar?” It was natural to change thecurrency denomination. The so-called ABF2 was released in 2005 and the ABF invested
in bonds denominated in each local currency.
The main goal of ABF is to further develop the bond markets of member countries,
combined with enhancing the efficiency and stability of Asian financial markets. The
establishment of this class of bond funds is to give some Asian countries, who havebuilt up massive foreign reserves, the opportunity to invest in financial assets that would
return back to the region. The ABF2 called a new problem on how to deal with thesettlement risk of the local currencies. The concept of “without the US dollar” means
the necessity of the efficient clearing system among the local currencies.
The development of Asian bond markets is necessary to eliminate the risk andinefficiency arising from the currency mismatch. A good reference is the resilience
shown by the European currency integration. The European countries established thecommon currency Euro without any link to the US dollar.
Asian countries have the experience of ACU (Asian Currency Unit). The ACU, aproposed basket of Asian currencies, is the Asian model of the European Currency Unit(ECU) that existed for 1979-1998. The ECU is artificial and preparing currency for theEuro. The ADB and Asian currency authorities initiated the plan of the ACU and startedto calculate the trial version of the ACU. The US stalled that project in 2007. The
independence of the US dollar is necessary to realize the autonomy in the Asianfinancial markets.

43. Settlement
The settlement is a basic and crucial process for security and currency transactions.
There is a settlement risk specific to foreign exchange transaction. That risk is called the“Herstatt Risk”. Herstatt Bank, a private bank located in Cologne in the West German,
went bankrupt in June 1974, and had to stop operations on payments between different
time zones. Counterparty banks had released payments in Deutsche Marks to Herstatt inexchange for US dollars that were to be delivered in New York. Due to the time zone
difference, however, those banks paid Deutsche Marks but did not receive their US
dollar payments, which in turn caused defaults amounting to losses of millions ofdollars. The realization of settlement risk often gives rise to financial crisis. The global
financial crisis in 2008 was triggered by the fact that settlements of the derivatives
transactions had failed.
The settlement risk is the risk that one party fails to deliver the terms of a contract
with another party at the timing of settlement. The source of the settlement risk is the“time difference” in the settlement between the two parties. The time difference arises
because the transfer of sell currency and buy currency is made separately by thesettlement system of each of the two countries. The settlement of the Japanese yen ismade using the Japanese settlement system during the opening time of the Japanesecalendar, while that of the US dollars is made using the US system during the opening
time of the US calendar. The risk associated with time difference arises because theopening time zones are not equal between Japan and the US.

5The payment-versus-payment (PVP) settlement eliminates the time difference risk
perfectly. It ensures that a final transfer of one currency occurs only if the final transferof the other currency also takes places. The counterpart mechanism in securities is thedelivery-versus-payment (DVP).
The ideal arrangement is to realize the PVP settlement. Continuous Linked
Settlement (CLS) is a global multicurrency settlement system that eliminates any
foreign exchange settlement risk due to the time-zone difference. In CLS, there is theCLS bank that has special accounts on the 18 central banks. The CLS service, provided
by the CLS bank, allows both legs of a foreign exchange trade submitted by members tobe settled simultaneously across the books of CLS Bank and therefore guarantees
finality and irrevocability of the settlement. The CLS has two head offices, one in New
York and the other in London.
The CLS covers 14 major currencies. It covers only 4 Asian currencies, the Hong
Kong dollar, the Singapore dollar, the Korean won, and the Japanese yen. It does notcover other Asian currencies, such as the Thailand baht, the Indonesian rupiah, and theChinese Yuan.
Our subject is to establish a system like CLS to cover Asian countries. The
experience of Hong Kong is a good reference to this subject. Hong Kong independently
established the financial infrastructure on the PVP basis among the Hong Kong
dollar(HKD), the US dollar(USD), the Euro(EUR), the Chinese yuan(RMB).2 Thissystem realized the PVP settlement among the four currencies in the opening time ofAsian, and built a linkage with the Chinese yuan, which is not covered by the CLS.

2

Hong Kong Monetary Authority: Financial Infrastructure in Hong Kong
http://www.hkma.gov.hk/eng/key-functions/international-financialcentre/infrastructure/financial-infrastructure-hong-kong.shtml.

6

(Figure 1) Hong Kong’s multi-currency payments and settlement infrastructure

4. Proposal of Multicurrency Clearing System in Asia
The subject is to establish a system like CLS to cover as many Asian currencies aspossible. Our proposal is to construct a multicurrency clearing system in Asia (hereafterMCSA). MCSA eliminates settlement risks for securities and currencies, and clears
each currency on a PVP basis supported by the central bank.
We propose to build MCSA in three steps. The first step is to link security
settlement systems of individual countries bilaterally. The security settlement system iscalled CSD (central securities depository), which is a specialized entity that provides acentral point for depositing financial instruments, such as bonds and shares. Clients ofCSDs are typically financial institutions, such as custodian banks and brokers. AnyCSD is linked with the central bank settlement system of home country. It will take 3-5
years to build this system. This is the most realistic model for the short term.
Security settlements are typically settled through the international central securities
depository(ICSD). Even for settlement for Asian trading, two European ICSDs are the7

dominant international securities settlement infrastructure. This attempt is aimed to shift
the place of international settlement for securities from Europe to Asia. Our idea is todevelop the Hong Kong financial Infrastructure. The equality in position among Asianmembers is important for integration, likely the European experience.
The second step is to build a simple linkage system to the Bank for International
Settlements (BIS). Now central banks have their accounts on the BIS. This allows final
settlements to be made on the internal transfer between the BIS accounts of the Asian
central banks. It will take 10 years to build this system. The BIS is located at
Switzerland that is politically neutral, which will be advantageous to keeping therelation that is free from political conflict.
The final step is to integrate these linkages, and construct multicurrency clearing
system in Asia. This is not just linkage system but settlement system. MCSA is themulticurrency clearing system such as CLS Bank and connect the domestic CSD among
Asian countries. MCSA uses the PVP system to eliminate the settlement risk. It willtake twenty years to complete it. Figure 2 illustrates the rough image.

(Figure 2) Multicurrency Clearing System in Asia (MCSA)

8

5. Conclusion
We have proposed the architecture of a multicurrency clearing system in Asia. We
discuss on several related issues. Huge foreign reserves in Asian countries, particularly
Japan and China, are effectively used for securing the stability of MCSA. These twocountries are in good positions to take initiatives in its architecture. The multicurrency
clearing system serves the role of providing liquidity. MCSA is complementary to theCMI because the CMI provides only USD. Finally, MCSA collects the financial datanecessary for calculating the accurate ratio of the currency basket of Asia. Among theall the international settlement, financial transactions amount to nearly 97%, while thoseof trade is just 3%.

9