It's Yuan Time!

We all know that China is peaking up in its economic conditions, but it is quite interesting to know that it has been trying to promote the Yuan as an alternative to the U.S. dollar, which has been the dominant global reserve currency since the 1944 Bretton Woods conference.
Currently, China represents

   ·         around 11 percent of global gross domestic product,

   ·         more than 10 percent of world trade and

   ·         nearly 9 percent of total foreign direct investment.

 It is a wonder to note that, of the currencies of the world’s six largest economies (USA, China, Japan, Germany, France, and United Kingdom) China’s Yuan is the only one that is not a reserve currency.
 

According to projections made in a recent report issued by the U.S. National Intelligence Council, China's economy is on the path of surpassing the U.S. in less than two decades. Now, the numbers tells the story clearly. Today, more than 10,000 financial institutions are doing business in Chinese Yuan, up from 900 in June 2011. The pool of offshore Yuan, non-existent three years ago, is now near 900 billion ($143 billion). And the proportion of China’s exports and imports settled in Yuan has increased nearly six fold in three years and is now nearly 12 percent. It is clear that more and more foreign enterprises that import goods from China choose to pay in Yuan, especially those in the emerging markets. The G3 – the EU, U.S. and Japan – have been China’s top trade partners for the past decade. But the emerging market share of China’s trade flows is rising steadily in line with changes in the global economic landscape. Currently the Yuan has surpassed the Russian ruble and Danish krone to become the world's 13th most-used currency for international payments.

According to Eswar Prasad and Lei (Sandy) Ye, authors of “The Yuan’s Role in the Global Monetary System,” there are three degrees of Yuan internationalization and it is been already happening !!

   1.      China and its trading partners have to transact in Yuan and it is been taking place since 2009.

   2.      According to HSBC, a third of China’s total trade will be settled in Yuan by 2015, making it one of the top-three global trade settlement currencies by volume.

   3.      The next step is for parties undertaking transactions unrelated to China to use the Yuan regularly.

To become a global currency requires “full convertibility”. HSBC economists forecast that China’s Yuan will become fully convertible within five years as the authorities seek to promote global use of the currency. For the currency to take the final step and become a global reserve currency, central banks around the world would have to maintain sizable holdings of Yuan as protection against balance of payments crises. In other words, the Yuan would become a so-called safe-haven currency. Researches has suggested that each 1 percentage point increase of GDP as a share of the world total (measured at actual exchange rate) leads to a 0.55 percentage point rise in central bank reserve holdings in the corresponding currency. Assuming the share of Chinese GDP to world GDP (at current prices and actual exchange rates) rises by 10 percent (taking into account the likely appreciation of the Yuan) over the next 10 years, this would suggest at least a 5.5 percentage point increase in central banks’ Yuan holdings. Hence, as long as China’s GDP growth stays above global growth, central bank reserves should increase their share of Yuan holdings, eventually making it an important reserve currency. Days are not far off for Rupee to become a reserve currency!!    

Article By

M. Aruna
Ist MIB

PSGCAS