Why China’s digital currency won’t threaten US dollar dominance
- China’s digital currency and its cross-border payments system will enhance the renminbi’s role as an international payments currency if the government continues to reform financial markets and remove restrictions on capital flows
- Nevertheless, the dollar will remain the global reserve currency of choice
Since then, however, the renminbi’s progress has stalled. Its share of international payments has fallen below 2 per cent, and the share of global foreign exchange reserves held in renminbi-denominated assets seems to have plateaued at about 2 per cent.
As the renminbi becomes more widely used, other smaller and developing countries that have strong trade and financial links with China might start to invoice and settle their transactions directly in that currency. The DCEP could eventually be linked up to the cross-border payments system, further digitising international payments.
Still, the DCEP by itself will make little difference to whether foreign investors regard the renminbi as a reserve currency. After all, the Chinese government still restricts capital inflows and outflows, and the People’s Bank of China still manages the renminbi’s exchange rate. Neither policy is likely to change significantly any time soon.
Renminbi boosters will point out that the government has eased restrictions on capital flows and signalled its intention to eventually open the capital account fully, and that the PBOC has pledged to reduce its currency interventions and let market forces have their way.
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In any event, foreign and domestic investors are unlikely to view the renminbi as a safe-haven currency in times of global financial turmoil. That requires trust, which is fostered by adherence to the rule of law and well-established checks and balances in the political system.
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Some argue that the rule of law does exist in China, and that the country’s non-democratic, one-party system of government contains enough self-correcting mechanisms to prevent policymakers from running amok. But these arrangements are not a credible or durable substitute for an institutionalised system of checks and balances such as that in the US, where the separation of the executive, legislative and judicial branches serves to constrain the exercise of power.
Any global gains the renminbi has made in recent years, both as a means of payment and as a reserve currency, have mostly come at the expense of currencies such as the euro and the British pound. Even when the IMF added the renminbi to the four existing currencies in the SDR basket and gave it a 10.9 per cent weighting, it was mainly the euro, the pound and the Japanese yen that gave way, not the dollar.
China’s new digital currency and its cross-border payments system will together enhance the renminbi’s role as an international payments currency if the government continues to reform the country’s financial markets and remove restrictions on capital flows. But they will hardly put a dent in the dollar’s status as the dominant global reserve currency.