What this means to our future economy
For the first time in history, the Chinese yuan has overtaken the US dollar as China’s most used cross-border currency. According to Reuters, cross-border payments and receipts in RMB Yuan increased significantly over the past few months. The record surged from the equivalent of US$434.5 billion in February to a record US$549.9 billion in March. Despite still being a small portion of total global settlements, the RMB Yuan’s share has been steadily increasing over the past few years.
This shift has been a long time coming, as China has been steadily pushing to internationalize its currency in recent years. The country has been promoting the use of the yuan in trade and investment and has signed currency swap agreements with dozens of countries around the world. Additionally, the yuan was added to the International Monetary Fund’s (IMF) Special Drawing Rights (SDR) basket in 2016, further bolstering its international standing.
With the rise of BRICS (Brazil Russia India China South Africa), the war between the dollar seems to be losing out.
The History of the Chinese Yuan
The Chinese yuan, also known as the renminbi, was first introduced in 1948 as the currency of the newly established People’s Republic of China. Prior to this, China used a variety of currencies, including the silver yuan, the gold yuan, and the yuan of the Republic of China.
In the early years of the People’s Republic, the yuan was pegged to the US dollar at a fixed rate. However, in the early 1990s, China began to move towards a more flexible exchange rate system, and the yuan was allowed to float within a narrow band against a basket of currencies.
In recent years, China has made a concerted effort to internationalize the yuan and increase its use in global trade and finance. This has included the establishment of offshore yuan centers in cities such as Hong Kong and London, as well as the promotion of yuan-denominated investment products.
Why is there lower demand for the US dollar
The rise in demand for the yuan has largely got to do with the lower demand for the US dollar. Here is some context readers should know about:
- Unstable Inflation rate
- The constant rise in interest rates makes borrowing money expensive
- Saudi Arabia considering using yuan to trade oil
- Heavy spending by the US for war and peacetime efforts in Ukraine (will take $411 billion to reconstruct)
- Bad government spending (US Wasted $247 Billion in Taxpayer Last Year)
Rise of BRICS
The rise of BRICS has contributed to a shift in the global economy away from traditional Western powers and towards emerging economies. This shift has put pressure on the US dollar, which has traditionally been the dominant global currency.
BRICS countries have grown in influence and reduced dependence on the US dollar. They use their own currencies in trade, create alternative payment systems, and diversify foreign exchange reserves from the US dollar.
Why Other Countries are Joining BRICS
19 other countries have recently shared their interest in joining BRICS, with 13 having formally asked and another 6 informally. Among those interested in joining are Saudi Arabia, Iran, Argentina, the UAE, Algeria, Egypt, Bahrain, and Indonesia.
In totality, the entire South-East Asia and the BRICS members can easily topple the US economy given its financial strength. This is why other countries are starting to see the yuan as more potential for growth and development.
Apart from that, the US dollar is still wreaked by the effects of money-printing during the pandemic which has dampened the US dollar. As of March 2023, the US inflation is hovering around 4.98% which is still far from the 2% mark.
Compared to that, the yuan has an inflation rate of just under 1%. Thanks to its early intervention in creating the Three Red Lines and the crackdown on tech. China is now seeing better future economic growth.
Joining BRICS could give countries greater access to trade and investment opportunities within the bloc. As BRICS seeks to reduce its dependence on the US dollar in international transactions, having more countries working together helps create greater economic and financial stability.
This trend has weakened the dominance of the US dollar in the global economy and made it more vulnerable to fluctuations in demand. As the demand for US dollars decreases, its value relative to other currencies may decrease as well. As more countries diversify their reserves away from the US dollar, there may be less demand for US treasury bonds. This could ultimately hurt the US economy because they are forced to increase interest rates and the US dollar becomes too borrow money.
The Implications of the Yuan’s Rise
The rise of the yuan as a major global currency has significant implications for the Chinese economy and the global financial system. Here are some of the implications:
Reduced Reliance on the US Dollar
With the yuan becoming a more accepted currency for international transactions, China can reduce its reliance on the US dollar. This means that China will have more control over its economic policies. Most importantly, they never have to worry about the impact of US sanctions or policies.
Boost to the Chinese Economy
As the yuan becomes more accepted, it will increase the demand for yuan-denominated assets. This will make it easier for Chinese companies to raise capital and for the Chinese government to issue debt. It will also encourage foreign investment in the Chinese economy.
Increased Trade with China
With the yuan becoming more accepted, it will make it easier for countries to trade with China. This will further boost China’s trade volume, which is already the highest in the world.
Reduced Transaction Costs
The use of the yuan in international transactions will reduce transaction costs for Chinese companies. This makes them more competitive in the global market.
Increased Competition
The rise of the yuan as a major global currency will increase competition between currencies. This will force countries to adopt more competitive policies to attract foreign investment and trade.
FAQ
How did the yuan become the most used cross-border currency in China?
China’s efforts to internationalize its currency have led to the yuan’s rise as a major global currency. By including steps such as allowing more foreign companies to use it in trade and launching initiatives like the Belt and Road.
What are the benefits of the yuan’s rise?
The yuan’s global currency status benefits China the most by reducing reliance on the US dollar. Increasing demand for yuan assets and trade, reduces transaction costs for Chinese companies and increases currency competition.
What are the implications of the yuan’s rise for the US?
The yuan’s rise as a major global currency could reduce the US dollar’s dominance in the global financial system. This could make it harder for the US to enforce economic sanctions on countries like Iran, Russia, and North Korea. It could also reduce the demand for US Treasury bonds. This could lead to higher borrowing costs for the US government.
Could the yuan eventually replace the US dollar as the world’s reserve currency?
Though the yuan is rising as a global currency, it’s unlikely to replace the US dollar as the world’s reserve currency soon. The US dollar comprises about 60% of global foreign exchange reserves, while the yuan is less than 3%.
What is the future outlook for the yuan?
The yuan’s global currency rise will continue due to China’s growing economy and countries diversifying their currency reserves. But the yuan faces challenges, and it’s unlikely to replace the US dollar as the world’s reserve currency soon. So if you are looking to invest, many investors are already looking at investing in China’s economy.
If you would like to learn more about how the world order may soon be changing. I highly recommend you to read the book by Ray Dalio featuring The Changing World Order. It is one of the New York Times best sellers and I myself absolutely love reading the book.
Changing World Order by Ray Dalio
From legendary investor Ray Dalio, author of the #1 New York Times bestseller Principles, who has spent half a century studying global economies and markets, Princi…
