Editor's Note: This article is part of Preview Policy Report for the 2018 China-EU Summit, which will be jointly published by China Watch Institute — the new think tank platform powered by China Daily — and Bruges-based EU-China Research Centre of the College of Europe.

A well-known Chinese proverb suggests that one should cross a river by feeling the stones. Thus, it can be said that the Chinese government progressed fairly quickly in internationalizing the renminbi between 2010 and 2015 near the shore, but once they ventured into deeper and choppier waters (the stock market turbulence of 2015) they realized their foreign exchange reserves were swiftly haemorrhaging and decided to go back to a more active intervention in foreign exchange markets and to tighter capital controls. This has slowed down the internationalization process. The question now is whether the Chinese government will give up and withdraw or forge ahead. If they choose the latter, another question is whether Europe can help in their journey.

Since the Chinese government started in earnest to develop a strategy toward the RMB’s internationalization in 2009, the currency's foreign usage has increased, with a steady rise from 2010 to 2013 and a substantial acceleration between 2013 and 2015. That year, the RMB was included in the Special Drawing Rights basket of the International Monetary Fund (which became effective in 2016), a milestone for policymakers in Beijing, especially at the People’s Bank of China (PBOC), the central bank. However, since the stock market turbulence of 2015 and the depreciation of the RMB it provoked, the Chinese currency’s internationalization has either stagnated or even declined.

China’s cross-border trade settled in RMB, for instance, rose from over 500 billion yuan in 2012 to 2 trillion yuan in 2015 (its peak) to fall back to around 1 trillion yuan in the spring of 2018. In percentage terms, this means that only 15 percent of Chinese trade is settled in RMB, and usually this includes trade with the Hong Kong special administrative region. Furthermore, the latest data provided by SWIFT for international payments show that the share of payments in RMB has shrunk from 1.6 percent in December 2015 to 0.98 percent in December 2017. This is far removed from the US dollar’s 41 percent, the euro’s 39 percent, sterling’s 4 percent and the yen’s 3.5 percent. As a matter of fact, the RMB is in eighth position, after the Canadian dollar, the Swiss franc and the Australian dollar.

But not all is bad news. Corporate and sovereign bonds denominated in RMB have overcome the dip recorded in 2015-16 and are now at record numbers. Of course, China and the RMB have great potential here. Currently, the participation of foreign investors in the Chinese domestic bond market is only 2 percent, compared with 60 percent in Mexico and 35 percent in Brazil. This might change with the opening up of the China Interbank Bond Market (CIBM). Until then, however, it will be difficult for the RMB to become a global reserve currency. As IMF data show, the RMB is far removed from the other currencies that compose the SDRs, accounting for only 1 percent of allocated world reserves, while the US dollar is at 63 percent, the euro at 20 percent and both the yen and sterling at 5 percent.

The stagnation in the rise of the RMB was a consequence of the stock market turbulence in 2015, but one cannot understand the situation without looking at the foreign exchange value of the Chinese currency. During 2013 and 2014, the US dollar appreciated considerably. At the same time, due to the managed floating exchange rate regime of the RMB, its value remained relatively stable vis-à-vis the US currency. This meant that the Chinese currency appreciated considerably with respect to other currencies, especially the euro. In this period the RMB appreciated a whopping 25 percent against the European currency, which was a big blow for China's export competitiveness in its second most important market.

Hence, the Chinese authorities applied three strategies necessary to avoid further instability but all detrimental for the internationalization of the Chinese currency. First of all, they had to use their massive foreign exchange reserves to keep the value of the RMB stable. This came at a cost. Chinese foreign reserves declined from $4 trillion in June 2014 to $3 trillion in January 2017. Furthermore, since the foreign exchange intervention was not effective, the Chinese authorities had to use more drastic measures to halt the hemorrhage. This they did in the form of tighter capital controls and a more intervened exchange rate regime. In our metaphor, this is the moment when Chinese policymakers, in their journey across the river of internationalization, realized that they could not see the next stone, and quickly drew back.

So now that the RMB is stuck in mid-river there are three possible ways forward for the Chinese currency: (1) China can give up on RMB internationalization and step back; (2) it can liberalize its exchange rate system, thus opening up the capital account; or (3) keeping its domestic market relatively state-managed and, on the basis of its Belt and Road Initiative, start to actively promote the RMB for most transactions. From an European perspective, it would be ideal if China chose the second option and here the EU could offer a lot of expertise and knowhow on how to achieve it given its past successes (but also mistakes to be avoided) in market liberalization.

However, the most likely outcome is that China will go for the third option. Even so Europe needs to engage. Financial centers such as London, Frankfurt and Paris could help issue bonds for BRI projects both in RMB (and in euros), European banks, which are very active in Asia, could participate more in the financing of the BRI in both currencies, too. The Europeans are already very involved in the Asian Infrastructure Investment Bank. Building on China's newly created “Cross-border Interbank Payment System”, the Chinese and European authorities could also explore the possibilities of creating alternatives to SWIFT, especially now that the US has rejected the nuclear deal with Iran and might use SWIFT to sanction European firms that continue to do business there. The PBOC and the ECB could also intensify bilateral talks and coordination in a time when there are again fears that the PBOC might let the RMB depreciate further as a retaliatory measure against the Trump administration.

Ultimately, the goal should be clear. Now that the US is withdrawing from its leadership role, the Europeans and Chinese should cooperate closer to do business with each other in their own currencies.

Miguel Otero-Iglesias is Senior Analyst at the Elcano Royal Institute and Professor at the IE School of International Relations in Madrid. The author contributed this article to China Watch exclusively. The views expressed do not necessarily reflect those of China Watch.

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