The Chinese currency yuan, is slowly but surely being introduced for more international payments.
Analysts believe this could lay the groundwork for a trading system parallel to the dominant US dollar.
In recent days alone, data showed that more cross-border transactions with China were conducted in yuan than dollars for the first time in March and that Argentina said it would regularly pay for Chinese goods in yuan rather than dollars.
The dollar dominates global trade, but the news comes amid a steady drumbeat of more bilateral deals involving yuan payments with China – from Chinese oil purchases in the Middle East to trade with partners from Brazil to Russia.
True global adoption of the yuan is unlikely, as Beijing wants to maintain a tight grip on the currency.
But the gradual development of a new trade architecture is moving forward and gaining pace, especially as Russia’s exclusion from much of the Western payment system has accelerated the development of alternatives.
“The world’s largest commodity exporters and importers – China, Russia, and Brazil – are now working together to use the yuan for cross-border payments,” said Chi Lo, senior investment strategist at BNP Paribas Asset Management in Hong Kong.
“Their cooperation could, over time, lead other countries to make payments in yuan and, overall, this group could boost the yuan at the expense of the dollar,” he said.
China has long sought to increase the yuan’s undersized 2.2% share of global payments but has been unwilling to open its capital accounts and allow the kind of free movement of capital that makes the dollar, euro, and yen so comfortable.
Russia’s war on Ukraine and the resulting Western sanctions have given substance to this push.
Suddenly, Russia has risen virtually out of nowhere to become the fourth-largest yuan trading center outside of China.
The yuan’s share of the Russian foreign exchange market jumped from less than 1% at the beginning of last year to between 40% and 45%.
According to SWIFT data, its share in financing global trade rose to 4.5% in February from 1.3% two years ago. The dollar’s share is 84%.
“The yuan will not replace the US dollar globally, but it is already beginning to replace the dollar in some of China’s trade relationships,” Gerard DiPippo and Andrea Leonard Palazzi, economists at the Washington-based Center for Strategic and International Studies, said in an article last week.
The yuan internationalization can achieve Beijing’s goals, including reducing China’s vulnerability to exchange rate fluctuations and weakening China’s susceptibility to US financial sanctions.
SLOW CHANGE
Global trade flows are dominated by the dollar, euro, pound sterling, and yen because these currencies are freely available and linked to open economies in a way that the capital-driven yuan is not.
However, there are no signs that this will change.
“In most trade transactions, importers have a comparative advantage in setting the terms of trade, such as pricing and settlement currency,” says Zhang Yu, senior macro analyst at Huachuang Securities in Beijing.
Therefore, if exporters want to use yuan to settle deals, they must convince foreign importers to pay in yuan, which often takes a long time.
China needs time to deepen the limited yuan pool outside the country, which Beijing less easily controls.
“It can take ten years or more for the yuan to be used more widely,” said Andre Wheeler, managing director of Australian supply chain and trade risk consulting firm Wheeler Management Consulting.
“If they tried to make Australian iron ore trade in yuan, I don’t think China would be able to handle that scale,” he adds.
But the yuan offers other advantages to China’s trading partners.
In Argentina’s case, buying goods in yuan saves it from drawing down dwindling dollar reserves.
More generally, each new participant adds to the depth and usefulness of a currency system.
“One of the many reasons for using the dollar is what we call network effects,” says Michael Pettis, a senior fellow at Carnegie China.
The more of us use it, the cheaper and more efficient its use becomes.
By increasing trade in yuan, Beijing is trying to create network effects that will make using the yuan for trade much easier and with lower friction costs.”