The future of yuan

China on its part has been signing similar arrangements with several countries in order to internationalise the yuan


M Ziauddin November 10, 2018
The writer served as executive editor of The Express Tribune from 2009 to 2014

Settling all bilateral trade between China and Pakistan in yuan is not a new facility. It has been there since December 2011 when a currency swap arrangement was signed between the two countries.

However, our traders had seemingly continued to feel more comfortable with the dollar because the PML-N government had kept a tight grip on the value of the rupee vis-à-vis dollar, never allowing it to tumble to its actual worth until the fag end of its five-year term, while on the other hand the yuan had looked to these traders relatively unstable as it was creeping up from Rs14 to Rs17 to a yuan.

China on its part has been signing similar arrangements with several countries in order to internationalise the yuan and prepare for an era when China’s currency could rival the US dollar as a global currency.

Indeed, if China switched from the greenback to the yuan to pay its oil-sector suppliers, it would eliminate annual dollar demand in such contracts by $876 billion, leading to historic depreciation of the dollar.

Joining the IMF’s SDR basket in 2015 may have involved financial risks for China, but it also promised an intangible reward in the form of international prestige. Beijing’s SDR policy has been more about affirming China’s national identity than about advancing its material interests.

Jeffery Moore II, senior analyst at Global Risk Insights, in an article (Can Emperor yuan dethrone king dollar as world’s currency? published on March 1, 2018 in the ozy.com) says: “As the world’s No 1 oil importer, China may have the leverage to demand such a dollar-to-yuan switch, which would directly influence nearly 40% of global oil production and create a massive oversupply of US dollars.

“The US dollar is immense — it makes up 64% of known central bank foreign exchange reserves; more than 85% of world forex trading; and 39% of all debt issued in the world. In addition, more than one-third of world GDP comes from countries whose currencies are pegged to the dollar. The sudden fall of the dollar would be hard indeed. It would lead to a massive inflation in the US, threatening the smooth function of debt markets that make the financial world go round.

“After all, China is already making moves to displace the dollar. In late July, China proposed pricing oil in yuan to Saudi Arabia. China has been reducing Saudi Arabia’s share of its total imports, which fell from 25% in 2008 to 15% in 2016. Chinese oil imports rose 13.8% year-on-year during the first half of 2017, but supplies from Saudi Arabia inched up just 1% year-on-year. With the US increasingly becoming energy independent, Saudi Arabia may have no other option than to yield to yuan-denominated oil in order to keep its biggest customer.

“And that’s just oil, of which China consumes approximately 12% globally, according to the World Economic Forum. While oil is the lifeblood of any industrial economy, the share of global consumption by China in other commodities is even higher, including more than half of all aluminium and nearly half of all steel and copper.

“Some experts believe that changing the world’s working currency would occur at a glacial pace. In fact, it could happen overnight in response to geopolitical conflagrations. Like the Iran sanctions. Pressures building, undetected beneath fault lines, an unexpected and sudden release could send King Dollar hurtling off its throne, with Emperor Yuan ready and waiting to take its spot. Such is the nature of black swans.”

Now that the easy part of yuan internationalisation—trade settlement—has been achieved, the rest of the process will depend on market forces and the Chinese authority’s will and ability to liberalise its domestic financial markets.

Japan, the second-largest economy in Asia, with a sophisticated financial sector and experience in financial liberalisation, has been slow to ride on the yuan internationalisation wave perhaps not to annoy the US, Tokyo’s security guarantor. In turn, Japan has contributed to the dollar’s persistent dominance in Asia. At the same time, the Japanese economy is becoming sensitive to currency competition as the country deepens its financial integration with the rest of the world.

Published in The Express Tribune, November 10th, 2018.

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