The USD is still always considered the “world currency” as it is widely used in international trade, foreign exchange reserves, and capital markets. However, over many years, China has continuously negotiated with fuel superpowers and groups of developing countries to reach agreements using the Yuan (CNY) in trade transactions, especially energy trade.
And in the past two weeks, a series of related events indicate that China is gradually implementing this plan.
What causes China to promote the use of CNY stemming from the energy market?
Can the CNY become a counterweight to the USD? And to achieve this, what will China have to give up?
What is the current position of the USD? What happens if the USD loses its place on the world economic map?
The weekend macroeconomics column of Viet Hustler will provide readers with the most comprehensive overview of the strength of the US dollar and analyses of the current “world currency” (the world currency) situation.
China's efforts to replace USD with CNY in international trade
Summary of key events:
03/29: China and Brazil reach agreement to use the two countries' local currencies in trade transactions.
03/28: China completes the transfer of a 65,000-ton LNG (liquefied natural gas) contract with UAE to France's TotalEnergies. The transaction was conducted in CNY.
Last week: Russia announced that they are considering using CNY as a strategic reserve currency alternative to USD.
In which, Russian companies issued CNY-denominated bonds equivalent to > 7 billion USD last year.
Before the war, EUR, gold, and USD were Russia's three main strategic reserve currencies.
Saudi Arabia reaches agreement with China to build an oil refinery in CNY worth 83.7 billion CNY (~12.2 billion USD).
2 weeks ago: Saudi Arabia (country exporting 6.2 million barrels of oil/day) declares it will consider selling oil in CNY and states that relations with the US "have deteriorated under President Biden".
In addition, Saudi Arabia also joins the trade alliance between China, Russia, India, Pakistan, and Central Asian countries to limit dependence on the USD.
The emerging countries bloc BRICS (Brazil, Russia, India, China, South Africa) plans to use a common currency (possibly CNY).
During the visit to Riyadh in December 2022, Xi Jinping suggested that China and Gulf countries use the “Shanghai National Petroleum and Gas Exchange” to make payments in Yuan for oil and gas transactions.
Why does China want to make CNY the trading currency specifically in energy trade?
One reason is that China's current energy demand is excessively large.
If continuing to exchange CNY for USD to buy energy, China will face the declining position of the CNY.
China's current crude oil demand has doubled compared to 2009.
However, there are also many opinions that China is leading emerging economies in the de-dollarization campaign, aiming to eliminate the USD's position in international trade.
How has China changed the international trade game?
At the time China joined WTO (World Trade Organization) in 2001, the US was still the important trading partner of 80% of countries worldwide.
By 2018, about 65% of countries worldwide traded more with China than with the US.
When tariff barriers were removed after China joined WTO, cheap Chinese goods increased purchasing power for people worldwide and also boosted real wages.
Cheap labor from China also caused US nominal wage growth to stagnate.
Today, China has become the largest trading partner of almost all countries.
Compare China's influence on international trade and currency markets compared to its neighboring brother Russia:
However, the position of the CNY on the world trade map is not like that.
Because the strength of any currency must be backed by people's trust in the government and the economic potential of that country.
Viet Hustler's articles on Chinese economy:
What will China have to trade off if it wants CNY to become the international trade transaction currency?
For CNY to become the main currency in world trade transactions, central banks worldwide must hold CNY as the main reserve currency (like USD currently).
This means the value of CNY must rise significantly to compete with USD. While currently USD is still much stronger than CNY.
A higher CNY value against other currencies will limit imports from China to other countries, as made-in-China goods will become relatively more expensive.
This will harm China's currently "brilliant" export industry.
In the financial market, for CNY to become the main reserve currency, China will need to open the capital market and make it more transparent.
Can the Chinese government give up market control?
And are the economic data as positive as previously reported? It's a big issue?
What will happen if USD is no longer the international currency
Since after World War II, the USD has always been the international currency, most used in commodity trade and a safe reserve currency.
After the Bretton Woods system collapsed, the USD is not backed by gold but its value is always guaranteed by the prosperity of the US economy, democratic strength, and US political and trade influence globally.
Energy commodities, especially crude oil, are still always traded in USD.
Notably, in the previous period, liquidity was pumped massively into the economy with a massive amount of USD created and put into circulation (electronically and physically), and the USD had significantly depreciated.
With the trade war and the Russia-Ukraine war, the US support for Ukraine has created conditions for Russia and China to form a new economic alliance bloc using other currencies, especially CNY. This poses an even greater threat to the position of the USD.
If the USD loses its position as the international trade transaction currency, it means:
The USD will also no longer be the reserve currency of banks or countries
Demand for USD will decrease. According to the law of supply and demand, the USD will depreciate.
As a result, the US will lose its position as an economic superpower, leading to a decline in the US political position as well.
The US losing its position as an economic superpower will further devalue the USD, as the value of the USD and the strength of the US economy must always go hand in hand.
The strength of the USD throughout this time has contributed to maintaining low prices and curbing inflation, because the prices of imported energy, commodities, and food will be lower for US citizens.
Therefore, once the USD depreciates, the possibility of inflation skyrocketing to unprecedented levels.
Because in the history of the USD's formation, the USD "has never truly depreciated" compared to other currencies!
The position of the USD in the current trade and financial markets?
For international trade:
USD remains the most used currency in international trade since 1989.
The use of CNY is gradually increasing but as a substitution effect for other currencies (EUR, GBP, and JPY).
=> The USD has never been replaced by CNY.
The USD index used in international trade remains quite high compared to the currencies of other trading partners.
Regarding foreign exchange reserves:
USD remains the world's most popular reserve currency. Followed by the Euro.
The reason USD and EUR are the two strategic reserve currencies is entirely due to the stable economic strength and political influence of the US and the Eurozone.
Even compared to EUR, USD has a stronger position since the Russia-Ukraine war broke out.
With its geographical location far from the battlefield, the US ensures the dollar is a "safe" currency.
In addition, US Treasury bonds remain the safest asset at the present time, and these bonds are denominated in USD!
However, foreign exchange reserves in USD are trending downward: from 72% in 1999 to 59% in 2021.
In the financial markets
The majority of current debt (including bonds) is denominated in USD. This is also one of the reasons why USD remains the primary reserve currency.
In addition, at the present time, the US financial market is the largest and most efficient financial market globally.
Many foreign individuals and organizations hold financial assets (stocks, bonds, financial funds…) denominated in USD.
Therefore, the demand for reserves and borrowing in USD will continue to maintain the position of this currency compared to others.
Meanwhile, not many investors want to hold Chinese bonds, due to the lack of freedom in this country's financial system.
Therefore, it can be said that the USD continues to firmly hold the top position in the global economy and trade. At least, China's de-dollarization plan cannot be realized in a short time.
However, with China's increasingly strong economic position, it is hard to say that the USD's position will remain as solid as it is now compared to CNY.
The possibility of a multipolar world with the rise of emerging economies is becoming increasingly clear.
CONCLUSION
China has begun to succeed in making CNY one of the currencies used in commodity transactions, especially in energy trade. The reason may be due to China's energy demand reaching a record high.
However, the rise of emerging markets led by China in de-dollarization efforts also threatens the position of the USD, along with the strength of the US economy. Because there is always a mutually supportive relationship between a national currency and the position of the issuing country. If the USD depreciates, runaway inflation will certainly occur and the US economy will collapse. But this possibility is unlikely to happen because the USD's standing in international trade, foreign exchange markets, and capital markets is quite solid.
One thing to note is that, although the position of the USD has "taken deep root" in the global financial and trade system, this position is ensured based on trust in the US economy and government.
With the current inflation and banking crisis along with the US's "generous" fiscal policy in the previous period, people are gradually losing faith in the government.
In particular, besides currencies backed by other governments, the dollar is also competing with cryptocurrencies.
Therefore, the US government needs to strengthen the faith of its people and allied countries in the economic strength of the United States. Because no currency is irreplaceable!
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