China: Central Bank Swaps to Mongolia, 2011

Starting in 2009, China began to rapidly expand its network of central bank swap lines (McDowell 2019). In 2011, the PBOC and BOM agreed to the swap line in order to promote trade and economic development and to stabilize financial markets with short-term liquidity. The BOM’s motivation for the swap line was to promote trade, defend the tugrik, and provide renminbi liquidity to the market (see Key Design Decision No. 10, Downstream Use of Borrowed Funds).

The PBOC-BOM swap line was bilateral and reciprocal (BOM 2012). The BOM’s primary mandate was to ensure the stability of the tugrik (BOM n.d.).

In 2017, the IMF, in partnership with regional partners and multilateral institutions, announced a three-year Extended Fund Facility arrangement for Mongolia for USD 434 million. As a part of this broader package, the PBOC agreed to renew its swap line to Mongolia for RMB 5 billion (USD 1.3 billion). The combined financing package for the BOM, including contributions from the IMF, PBOC, and other multilateral organizations, was USD 5.5 billion (IMF 2017).

In 2011, the PBOC extended swap lines to five countries. Figure 8 shows the PBOC swap lines extended in 2011. The 2011 extensions were part of a larger effort by the PBOC to expand its swap line coverage. By 2020, the PBOC had extended swap lines to 31 countries (Perks et al. 2021).

The PBOC’s enabling law provides that the PBOC will have the authority to issue the renminbi, dictate and implement monetary policy, regulate foreign exchange markets, and engage in “relevant international financial activities” (Law of the PRC on the PBOC 2003). Any non-monetary policy decisions must be approved by the State Council, China’s highest administrative governing body^FThe State Council is the equivalent to China’s executive cabinet; the head of the State Council is the premier, who is commonly the second most powerful member of the ruling Chinese Communist Party. It is primarily in charge of running the “day-to-day affairs of the state” (Wright 2015, 32). (Law of the PRC on the PBOC 2003).

The BOM’s foreign exchange management policy is based on Article 21 of the Law on the Central Bank of Mongolia (BOM 2020; State Khural 2001). When the BOM drew on the line, it lent the renminbi proceeds downstream to commercial banks via foreign currency auctions. It also engaged in downstream short-term renminbi swaps with commercial banks. On June 30, 2016, the BOM passed the “regulation on the MNT and RMB currency swap agreement,” which established parties’ rights under the renminbi swaps provided to commercial banks (BOM 2012; BOM 2013; BOM 2014a; BOM 2015; BOM 2016; BOM 2017). (See also Key Design Decision No. 9, Process for Utilizing Swap Agreement.)

Without access to the swap agreements, we could not determine which body approved entering into the swap agreements or made high-level governance and design decisions; however, the State Council authorized the 2012 supplemental agreement. The initial 2011 agreement between the PBOC and BOM was signed by the PBOC governor. The 2012 amendment was signed by the governors of the PBOC and BOM. In 2015 and 2018, the governors of the PBOC and BOM held a meeting to discuss the swap line (BOM 2012; BOM 2013; BOM 2016; BOM 2019).

The PBOC disclosed the dates and sizes of renewal/amendment of the BOM swap line in its 2021 renminbi internationalization report (PBOC 2021). The BOM disclosed in its annual reports, for each year, the amount drawn from the swap line, key swap line details (such as rates and fees, repayment term, and caps), and any renewals or revisions to the swap line (see Figures 2 and 3 at Overview).

The BOM made an advanced purchase of renminbi with tugrik, the proceeds of which stayed in its account with the PBOC until the BOM made a request for use. Once a request was made and the use of funds was approved, the BOM could use the renminbi funds in its PBOC account (BOM 2012). This is an unusual step in swap arrangements. Generally, funds are drawn and then made available for the borrower’s use without a secondary approval process. Our research was unable to determine the purpose of this advanced-purchase scheme.

The PBOC said it extended the swap line to “boost bilateral trade development and to provide short-term liquidity” (Qi 2011). In a press release in 2012, the PBOC said it agreed to a supplemental agreement in order to “facilitate bilateral investment and trade and safeguard regional financial stability” (PBOC 2012). In 2013, President Xi Jinping “identified Mongolia’s financial sector as one of three primary areas for economic cooperation” in a 2013 statement on Sino-Mongolian economic and trade relations (Reeves 2018). The prime ministers of China and Mongolia said that the implementation of the swap line was a feature of the China-Mongolia Strategic Partnership, which covered bilateral cooperation on political and economic issues (Xinhua 2013).

The BOM reported each use of the swap line and every renewal, amendment, or change to the swap line in its annual reports (see Figures 2 and 3 at Overview). The PBOC disclosed the dates and sizes of renewals and amendments of the BOM swap line in its 2021 renminbi internationalization report (PBOC 2021).

The BOM disclosed in detail in its annual reports its downstream use of the funds drawn from the PBOC swap line (see Key Design Decision No. 9, Process for Utilizing the Swap Agreement).

In 2011, the BOM’s deputy governor stated that the PBOC-BOM swap line would provide a “safety belt” to boost investor confidence in the local tugrik debt market and help with a five-year government bond auction (Choi 2011). In its 2012 annual report, the BOM said that the expansion of the PBOC-BOM swap line was “particularly significant” in providing renminbi liquidity and in permitting it to intervene in the foreign exchange market in order to maintain currency stability (BOM 2013, 37). The bank also said the downstream renminbi lending had prevented a potential renminbi shortage. In its 2014 annual report, the BOM said that the swap line extension was “significant in [balance of payments] recovery and a soft-landing for the economy” (BOM 2015, 41). The extension also had a positive impact on foreign trade finance, exchange rate risk management, regional economic cooperation, macroeconomic stability, and balance of payments issues. The BOM said that in 2015 the swap line contributed to the bank’s ability to mitigate the impacts of negative regional external shocks to the economy (BOM 2016). In 2015, the BOM’s chief economist, Sandagdorj Bold, said that the PBOC swap line was “one of the tools to absorb the shock of balance of payments pressures” (Edwards 2015). In its 2020 annual report, the BOM said that the extension of the swap line had “resolved the short-term external debt burden without compromising economic stability” (BOM 2021, 62).

In 2018, anonymous senior financial analysts at the BOM said they were “uneasy” over Mongolia’s debt burden to China (Reeves 2018, 185).

The BOM’s accounting treatment of the swap line varied over time. In 2012 through 2015 (the BOM did not report in 2011), the BOM included swap line–generated liabilities under the “liabilities due to foreign parties” line item as an unsecured loan.^FScholars have said that, in many cases, central bank swap lines are in fact close to an unsecured loan to the extent that the collateral is an unsecured deposit—which is, in effect, currency that the depositing central bank has “printed” and that may have little transactional value to the counterparty central bank (Aizenman, Jinjarak, and Park 2011; Bahaj and Reis 2022). The BOM offered no explanation in its annual reports for why it changed its treatment of the swap line–derived liability over the years. Also, in 2012 only, the BOM specifically disclosed in the “liabilities due to foreign parties” line item that the liability was derived from a swap line. After 2015, the BOM described such liabilities only as “financing” from the PBOC (BOM 2013; BOM 2014a; BOM 2015; BOM 2016; BOM 2017; BOM 2018; BOM 2019; BOM 2020; BOM 2021; BOM 2022).

Consistent with the IMF’s Balance of Payments and International Investment Position Manual (Sixth Edition), the BOM does not account for its tugrik at the PBOC (the “forward leg” of the swap) as a reserve asset (BOM 2013; BOM 2014a; BOM 2015; BOM 2016; BOM 2017; BOM 2018; BOM 2019; BOM 2020; BOM 2021; BOM 2022; IMF 2009).

The swap line was accompanied by some political controversy in Mongolia. In 2017, before the PBOC swap line was renewed, the Mongolian foreign minister spoke with the Chinese foreign minister and “reflected deeply” on a visit by the Dalai Lama to Mongolia, promised he would not allow such a visit to occur again, confirmed that Mongolia maintained its one-China policy, and said that Mongolia believes Tibet is a part of China (Y. Zhang 2017). In 2020, the Mongolian National Security Council made recommendations with respect to the PBOC swap line, which were incorporated into the 2020 renewal (BOM 2021). The BOM did not disclose the recommendations, but the Mongolian National Security Council’s enabling law said that one function of the council was to “increase the ability of the economy to develop independently based on its internal resources” (Mongolia Congress 1992). Mongolia’s national security concept included numerous financial directives, including that Mongolia must “maintain national foreign exchange and gold reserves at a level not less than the amount of annual import requirement” (MOFA n.d.).

The PBOC extended and renewed this swap line only to the BOM.

The PBOC and BOM signed their currency swap agreement in 2011 and expanded it four times, in 2012, 2014, 2017, and 2020. The BOM’s ability to draw under the agreement was limited to RMB 5 billion in 2011 and grew to a limit of RMB 15 billion by 2020. The PBOC’s ability to draw under the agreement began at MNT 1 trillion in 2011 and grew to MNT 6 trillion by 2020. (For further detail, see Figure 2 at Overview.)

Each central bank maintained a special non-interest-bearing account for the other central bank into which currency was deposited with respect to draws under the swap line—the BOM had an off-balance-sheet renminbi account at the PBOC and the PBOC had a tugrik account at the BOM (the tugrik assets of which the BOM also accounted for as off-balance-sheet). Upon the request of the borrowing bank and the approval of the lending bank, either bank could purchase the other’s currency by depositing an equivalent amount of its own currency as collateral with the lending bank, for example: buy renminbi with tugrik or buy tugrik with renminbi, for an agreed-upon period. At the end of the period, the corresponding repurchase/resale transaction would occur, and the borrower would return the foreign currency borrowed to the lender in exchange for the return of its domestic currency collateral (BOM 2012).

The BOM made an advanced purchase of renminbi with tugrik, the proceeds of which stayed in its account with the PBOC until the BOM made a request for use (but see note to Figure 3 at Overview). Once a request was made and the use of funds was approved, the BOM could use the renminbi funds in its PBOC account (BOM 2012). This is an unusual step in swap arrangements. Generally, funds are drawn and then made available for the borrower’s use without a secondary approval process. Our research was unable to determine the purpose of this advanced-purchase scheme.

When the BOM drew on the line, it sold most of the renminbi proceeds in foreign exchange auctions to ease the pressure on the tugrik against the US dollar and prevent a shortage of renminbi on the market (BOM 2013; BOM 2014a; BOM 2015; BOM 2016; BOM 2017).

In 2011 and 2012, the BOM also lent a relatively small amount of renminbi downstream to commercial banks via foreign currency auctions (BOM 2012; BOM 2013). From 2013 through 2016, it lent renminbi through downstream short-term renminbi swaps with commercial banks (BOM 2014a; BOM 2015; BOM 2016; BOM 2017; Choi 2011).

Figure 9 shows the BOM’s draws on the PBOC swap line each year with its foreign exchange interventions (renminbi auctions) and commercial swaps (short-term renminbi swaps with commercial banks) for the years in which it actively drew on the line. (See also Figures 10 and 11 at Appendix.)

The usage period for draws by either bank was three to six months until 2014, when the usage period was extended to up to 12 months for both parties (see Figure 2 at Overview). Our research was unable to uncover specific draw periods.

In the 2011 agreement, there were two interest rates depending on the drawing party. If the BOM requested a draw from the PBOC, it would pay the Shanghai Interbank Offered Rate (SHIBOR) for renminbi deposits with a corresponding usage period plus 200 basis points. If the PBOC requested a draw from the BOM, it would pay the Interbank MNT Weighted Rate with a corresponding usage period. The borrowing party would pay interest owed on the date of repayment of the draw amount (BOM 2012). Some scholars have said that China’s swap rate spreads appear to take account of the risk profile of the recipient country (Perks et al. 2021). Our research did not uncover whether the PBOPC paid any interest on the BOM’s special account at the PBOC resulting from its advanced purchase of renminbi (see Key Design Decision No. 9, Process for Utilizing the Swap Agreement).

A standard swap agreement involves the borrowing central bank purchasing the lending central bank’s currency with its own; the two banks then engage in subsequent repurchase and resale transactions—in essence, the borrowing central bank’s currency acts as collateral against the loaned currency (Perks et al. 2021). Generally, it is possible that the lending central bank in a swap arrangement could impose a haircut on the borrowing central bank (Bahaj and Reis 2021). Under the PBOC-BOM swap, when the PBOC lent renminbi to the BOM, it received an equivalent amount in tugrik; the reverse was also true if the BOM lent to the PBOC (BOM 2012).

In 2017, before receiving the PBOC swap line renewal, the Mongolian foreign minister spoke with the Chinese foreign minister and “reflected deeply” on a visit by the Dalai Lama to Mongolia, promised he would not allow such a visit to occur again, confirmed that Mongolia maintained its one-China policy, and said that Mongolia believes Tibet is a part of China (Y. Zhang 2017).

In 2017, the PBOC “indicated that if the Mongolian authorities’ policies under the [swap] program remain on track,” it would be reasonable to renew the line again in 2020; the PBOC did not indicate what the relevant policies were (IMF 2017, 21). The leaders of both nations recognized the swap line as a part of the broader China-Mongolia Strategic Partnership, which provided a framework for economic cooperation (see Key Design Decision No. 6, Communication).

The PBOC did not disclose other options that it considered.

The central banks most recently renewed the swap line on July 31 2020; we have not been able to confirm a specific expiration date but the swap line was renewed for a three-year period (BOM 2021).