China sets sights on greater yuan use in Asean, takes pragmatic approach combating US dollar hegemony

Association of Southeast Asian Nations (Asean) has surpassed the European Union and the US to become China’s largest trading partner
People’s Bank of China also plans to promote direct trading with other currencies, while supporting overseas economies in developing yuan foreign exchange markets

Yuan

Mia Nulimaimaiti

Published: 4:57pm, 11 Oct 2022

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China will place an emphasis on yuan currency settlements with neighbouring countries and the development of offshore centres as its next steps to promote the greater use of the Chinese currency overseas, its central bank said.

The down to earth assessment from the People’s Bank of China (PBOC) comes as the yuan’s international acceptance remains too small to challenge US dollar hegemony.

The US Federal Reserve’s aggressive interest rate increases this year, which have lifted benchmark levels to their highest since 2008, have also weighed heavily on China in terms of capital outflows after further widening the monetary policy gap between the world’s two largest economies.

We will focus on enhancing the convenience of the yuan in cross-border trade and investment, and prudently promote the globalisation of the yuan

PBOC

“Currency internationalisation is a long-term process,” the central bank said in a statement over the weekend.

“Based on the principles of respecting the market and responding to demand, gradual and controlled risks, we will focus on enhancing the convenience of the yuan in cross-border trade and investment, and prudently promote the globalisation of the yuan.”

The PBOC will explore the possibility of yuan currency settlements with Association of Southeast Asian Nations (Asean) member countries, as well as China’s neighbours.

It also plans to promote direct trading of the yuan with other currencies, while supporting overseas economies in developing yuan foreign exchange markets.

The Asean has surpassed the European Union and the United States to become China’s largest trading partner, and it is seen as the most likely region where yuan can become an anchor currency.

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The central bank also pledged to increase yuan liquidity and design yuan-denominated products in Hong Kong and other offshore markets. Deposits in major offshore yuan markets – including Hong Kong, Singapore, and London – currently amount to nearly 1.5 trillion yuan (US$210 billion), according to the PBOC’s annual report released last month.

China started its ambitious yuan internationalisation plan with trade settlements in 2009, further expanding it to outbound investment via its Belt and Road Initiative, while also opening its financial markets to foreign investors.

The PBOC said it will continue to simplify the process for overseas investors to channel funds into the Chinese market and enrich the range of assets available for investment, easing the allocation and holding of yuan assets by global central banks, among other institutions.

By the end of August, the combined size of financial assets, such as stocks, bonds, loans, and deposits held by foreign institutions in the Chinese financial market was nearly 10 trillion yuan (US$1.4 trillion), according to the PBOC.

Compared with the US dollar, it certainly still has a long way to go

Larry Hu

“The yuan is certainly much more internationalised than five or even 10 years ago. But if compared with the US dollar, it certainly still has a long way to go,” said Larry Hu, chief China economist at Macquarie Capital.

“It’s something that can only be done step by step.”

The yuan is seen to have become less attractive to foreign investors given the recent depreciation pressure and domestic economic slowdown.

“With the US interest rate hike, people will earn more by saving in dollars than in yuan,” added Hu.

Due to the large capital outflows and aggressive rate increases by the US Federal Reserve, the yuan has weakened by more than 10 per cent against the US dollar this year, having breached the key level of 7 per US dollar for the first time in over two years last month.

“If [the capital controls] can be resolved, a lot of overseas yuan can be reinvested back into the Chinese financial market, and then there will be a far greater scope for internationalisation of the yuan than there is now,” added Hu.

In an annual report released last month, China’s central bank said that the yuan’s internationalisation index was 2.86 as of the end of March compared to readings of 58.13 for the US dollar and 21.56 for the euro.

According to the International Monetary Fund, the yuan only accounted for 2.88 per cent of global foreign exchange reserves in the second quarter compared to 59.53 per cent for the US dollar.

The yuan’s share in terms of global payment value rose to 2.31 per cent in August from 2.15 per cent a year earlier, but still lags far behind 42.6 per cent for the US dollar, according to the Society for Worldwide Interbank Financial Telecommunication (Swift). The widely used Swift financial messaging system enables cross-border money transfers.