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Bangladesh is letting authorised banks settle trade deals in China’s yuan, as an alternative to the strengthening US dollar. Photo: Shutterstock

Even as Bangladesh bolsters yuan trade, its dependence on US dollar weighs on foreign reserves

  • Seeking to diversify its forex holdings away from the strengthening US dollar, Bangladesh’s central bank lets financial institutions settle trade deals with China in the yuan
  • But even with this new currency option, some analysts fail to see much potential, as Bangladesh’s imports from China vastly outweigh its exports to China

Bangladesh is broadening its use of China’s yuan as an alternative to the US dollar in international transactions, but economists say the shift is unlikely to shake the southern Asian nation’s reliance on the dollar.

Earlier this month, Bangladesh’s central bank allowed so-called authorised dealer (AD) banks – which are licensed to buy and sell foreign currencies – to settle trade deals with China in the yuan. This expands on its 2018 decision to allow such local banks to open foreign-currency clearing accounts with the central bank in yuan.

Now, banks can maintain an account in yuan with their corresponding branches abroad to settle international payments – a move intended to help preserve Bangladesh’s dwindling foreign reserves.

“This is a good move for Bangladesh, and we are happy that China has accepted,” said Faruque Hassan, president of the Bangladesh Garment Manufacturers and Exporters Association. “Due to the high cost of commodities, and high freight charges, the foreign reserves of many countries are declining.”

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Developing countries such as Pakistan, Bangladesh and Sri Lanka have seen their foreign reserves shrink as they defend their currencies against a strengthening US dollar.

The coronavirus pandemic and Russia’s invasion of Ukraine have driven up costs of imports, and debt-servicing problems have also added to the economic pains.

“Ever since the dollar started rising, there has been concern expressed by business communities, policy advisers and civil society leaders about the excessive dependence on the US dollar and possible alternatives,” said Zahid Hussain, former lead economist at the World Bank’s Dhaka office. “China’s currency was the natural candidate.”

The move comes at a time when several central banks have been increasing their yuan reserves.

The International Monetary Fund (IMF) in 2016 added the yuan to a special drawing rights (SDRs) currency basket – an acknowledgement of the yuan’s internationalisation. And in May, the yuan’s weighting was raised by 1.36 percentage points during the IMF’s five-yearly review of the basket – to 12.28 per cent. However, its increase was overshadowed by that of the dollar, which increased by 1.65 percentage points to account for 43.38 per cent of the basket.

The yuan now ranks third by weight in the five-currency basket, after the dollar and euro but ahead of the Japanese yen and British pound.

Looking ahead a decade, a survey of 30 central banks shows that the average 10-year target allocation for the yuan as a share of global reserves is 5.8 per cent, according to the 2022 UBS Annual Reserve Manager Survey. That would mark a considerable increase from 2.79 per cent reported by the IMF in the fourth quarter of last year.

However, economists say that while the move may benefit traders in Bangladesh, it is unlikely to bring imminent economic relief to the country.

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Bangladesh’s foreign exchange reserves fell from US$48 billion in August 2021 to US$36.8 billion as of September 22, according to its central bank data. That total is roughly enough to pay for four months worth of imports, whose purchases are settled with those reserves.

“At the micro level, [the new move] eases conditions for doing business by providing another currency with which you can buy and sell,” Hussain said. “Previously, that wasn’t possible with the yuan.

“However, at the macro level, you have to think about what is the technical maximum amount of trade that could take place in yuan and Bangladeshi taka. The maximum depends on the exports of the deficit country.”

Bangladesh’s exports to China from January to August totalled about US$662 million, while imports from China were worth 27 times as much – US$18 billion – during the same period, according to Chinese customs data.

“The deficit would have to be settled in a third currency directly or indirectly,” Hussain said.

The nation’s limited exports to China also mean that Bangladeshi banks do not have large amounts of yuan in reserve, noted Ahsan H. Mansur, executive director at the Policy Research Institute.

The yuan comprises about 1.4 per cent of Bangladesh’s US$36.8 billion worth of foreign reserves.

“We are overly reliant on ready-made garments and haven’t developed more products in our exportables basket,” Mansur said. “China has a lot of import potential, but we aren’t able to capture it.”

Individual traders who typically export to advanced economies such as the US, Europe and Canada, while importing from China and India, are also unlikely to use the yuan to settle their transactions with China, Hussain added.

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“If I invoice my output in dollars, and I am buying materials from China and those are invoiced in yuan, then I have two exchange rates to worry about,” he said. “I am not hedged but exposed on both fronts.

“Even though traders now have the option of using the yuan to settle payments, I don’t see a lot of potential. There is more politics than economics [behind this decision].”

To ease the pressure on Bangladesh’s reserves, “the fundamentals would have to be corrected”, he added.

As an import-dependent nation, Bangladesh would continue to have excess demand for foreign currency, but the central bank has exacerbated pressure on reserves by selling around US$7.6 billion dollars in the 2022 financial year to defend the value of its taka.

“The central bank needs to move firmly out of this policy of draining the reserves,” Mansur advised.