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Iraq is allowing for trade in private sector imports from China to be settled in the yuan as well as the dinar (pictured), and the Chinese currency will be provided to Iraqi lenders. Photo: AFP

Iraq’s trade with China may be settled in yuan, but oil exclusion seen trivialising the move

  • China has sought for years to internationalise the yuan, but recent moves by Iran and Russia are far from initiating ‘real, meaningful change’
  • President Xi Jinping had called in December for energy trade with Middle East to be settled in yuan over the coming years, but some analysts say this is unlikely to happen

Iraq’s decision to allow trade with China to be settled in the yuan for the first time will not significantly advance the latter’s long-held goal of internationalising its currency, according to academics.

The move by Iraq’s central bank also will not include its oil trade, according to Mudhir Salih, an economic adviser for the government, who was quoted by Reuters on Wednesday.

Crude oil comprises the vast majority of the Middle Eastern country’s exports, and President Xi Jinping proposed in December at the China-Arab Summit that oil and gas trade among six Gulf Cooperation Council states be settled in the yuan within three to five years.

But instead of oil, the Iraqi central bank said it will allow for private sector imports to be paid off in the yuan, and the bank will provide the Chinese currency to Iraqi lenders to pay their Chinese counterparts.

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“It is the first time imports would be financed from China in yuan, as Iraqi imports from China have been financed in [US] dollars only,” Salih said.

The real impact of this decision is not that great, according to Chen Zhiwu, chair professor of finance at the University of Hong Kong, although such an announcement is a step in the right direction for the Chinese government, which has been intensifying its push to internationalise the yuan for several years.

“Bigger countries and economies have to get involved for it to be a real, meaningful change,” Chen said.

Earlier this month, the People’s Bank of China also signed a memorandum of cooperation with the Central Bank of Brazil to establish yuan-clearing arrangements in Latin America’s largest economy.

“Since Iraq’s imports from China are relatively small, I think it will not have a significant impact on the overall degree of [yuan] internationalisation,” said Edwin L.C. Lai, a professor of economics at the Hong Kong University of Science and Technology, who wrote a book about the yuan’s internationalisation.

“But it still has some significance, in the sense that there may have been a shift from using other currencies before, such as the US dollar.”

Beijing has made it clear for years that enhancing use of the yuan overseas is a priority, particularly in the face of US dollar hegemony. The subsequent push has involved attempts to boost the yuan’s appeal as an alternative currency in international trade, and as a reserve currency.

This would make the world’s second-largest economy less exposed to exchange-rate risks, less reliant on foreign financial institutions and international payment systems, and it would allow China to borrow money at lower interest rates.

Trade in oil can be invoiced in only one currency … the US dollar
Edwin L.C. Lai, economics professor

With geopolitical ties between the US and China worsening in recent years, China has a new sense of urgency to internationalise its currency, Lai said.

“But even today, more than 50 per cent of China’s trade is still not denominated in [the yuan]. It is not so easy to push for a high degree of [yuan] trade invoicing and settlement, given China’s relatively closed capital account and underdeveloped financial markets,” Lai added.

Despite Xi’s call for more energy trade to be settled in the yuan, analysts such as Lai say this is unlikely to take place on a meaningful scale in the near future.

“Oil is a homogeneous good, and it is possible to arbitrage it easily. Trade in oil can be invoiced in only one currency, which we call a vehicle currency. Right now, the vehicle currency for invoicing trade in oil is the US dollar,” Lai explained.

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The US also has the deepest and broadest financial market and most open capital account, further reinforcing the dollar’s strength to the point that it would be extremely difficult to displace in trade.

“It would be very hard to dislodge the US dollar as the dominant currency in the near future – say in the next 20 years. Any pricing of oil in any currency other than the US dollar would result in arbitrage, which any oil seller will want to avoid.”

Chen at the University of Hong Kong also noted that even though relatively weaker economies such as Iran and Russia are making moves to enhance trade in the yuan, they look to remain in the minority.

“With the worsening geopolitical environment, it is hard for me to expect too many other countries to follow suit,” Chen added.