For decades the US greenback dollar has dominated the international financial and trading system with few challengers, and not even the Euro has been able to assume as important a role as the US dollar.
However, this is about to be challenged from a new quarter. While the world has been engrossed with the latest spats over tariff wars and who and when countries will retaliate against the US, the Chinese have very quietly set the ball rolling to end the American dollar’s hegemony in international trade.
The country introduced in March the first-ever Yuan crude futures contracts in Shanghai stock exchange. This raised some questions on whether the move was a symbolic one or a more long-term assertiveness by the Chinese to introduce the Yuan into global trade relations and possibly as an alternative currency of international reserve to the US dollar.
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Others saw it as one more move by the Chinese as a sign that the country is indeed liberalizing and opening up as requested by the USA and other trading partners. This is not an idle Chinese threat given that that China possesses the largest US Treasury holdings by the Chinese Central Bank, estimated at around $1.18 trillion in December 2017, the largest foreign holder after Japan with $1.02 trillion.
To put this in perspective, the largest Arab US Treasury holding is that of Saudi Arabia with $ 112 billion in January 2018. The total estimated Chinese foreign exchange reserves of around $ 3.14 trillion also highlights the significant overseas soft economic power the Chinese can deploy today, ranging from investments in Latin America, Africa and in the Middle East and enable s that country to try and challenge the American dollar’s global hegemony.
Paying in Yuan for oil could also become part of President Xi Jinping’s “One Belt, One Road” initiative to develop ties across Eurasia, including the Middle East and entice Chinese investments in the Middle EastDr. Mohamed Ramady
Did the Chinese have to take this action to introduce their own Yuan futures oil contracts? Today the Chinese are the largest commodities contract traders and in 2017 they accounted for 3.052 billion commodity trade lots, valued at a staggering $ 24.8 trillion.
On the oil front, China has also surpassed the US as top world importer of oil, taking this from 4.85 million bpd imports in 2010 to 9.05 million bpd in 2017. The USA meanwhile saw its import of oil drop from 9.24 million bpd in 2010 to 7.33 million bpd in 2017.
The Chinese have done this before with nickel commodity trades. Nickel was the last major commodity to be listed in Shanghai in 2015 and to all intents and purposes it was a successful launch as within six weeks, trading in Shanghai surpassed benchmark futures on the London Metal Exchange.
The Chinese decision revolves around two policy considerations – politics and pragmatism on the type of oil contracts being carried out today. Politically, futures trading would wrest some control over pricing from the main international benchmarks such as West Texas Intermediate, or WTI, which trades on the New York Mercantile Exchange, and Brent crude, which trades on ICE Futures Europe in London and both of which are based on dollars.
Denominating oil contracts in Yuan would promote the use of China’s currency in global trade, one of the country’s key long-term goals as an alternative to the dollar and making this even more appealing to sanctions threatened countries relying on the American dollar.
On the pragmatic side, China would benefit from having a benchmark that reflects the different grades of oil that are mostly consumed by Chinese refineries and often differ from those underpinning Western oil futures contracts.
Foreign commodity traders have been split in their welcome to the new Chinese oil futures market and point out to a list of obstacles compared to the larger and more transparent London or New Your mercantile exchanges but some of it could be due to imbedded inertia and the fear of embracing the unknown.
However, a vote of confidence has been given to the new oil futures exchange through the participation of two of the world’s better known commodity trading companies – Glencore and Tarfigura with others watching to see how the debut exchange operates before joining.
To attract more foreign participation, China will waive income taxes for overseas individuals and institutions. For China’s regulators, the hope is that the futures will serve as a risk management tool for its oil companies, as well as help open the country’s financial markets.
Using the Yuan in international trade is something that is not new as China has recently been proposing to Gulf oil producers and others for making payments in Yuan instead of dollars for its oil imports and has made this more attractive by making the Yuan convertible to precious metals.
It makes sense in the long run for oil producers looking to enter or gain market share in China to look at transactions in Yuan because China is a key market for their exports, thus bringing forward the day of a new “petro – Yuan” like the famous “petro–dollar” of the 1970s.
Paying in Yuan for oil could also become part of President Xi Jinping’s “One Belt, One Road” initiative to develop ties across Eurasia, including the Middle East and entice Chinese investments in the Middle East economies such as the announced intention of Chinese participation in Saudi Aramco’s planned IPO offering.
The ‘One Belt, One Road’ also fits in with the Kingdom’s vision to have Saudi Arabia become a regional and international engineering and service hub and this has opened up new Gulf investment and finance opportunities.
A Chinese agreement to consider international loans denominated in the Yuan was discussed during last year’s China-Saudi Economic Forum in Jeddah as the Kingdom seeks to diversify its sources of capital market venues.
All the above will take time to materialize but it has started a small ball rolling for the emergence of a global “petro–Yuan” and Gulf companies have to take this into consideration in future Chinese dealings.
Dr. Mohamed Ramady is an energy economist and geo-political expert on the GCC and former Professor at King Fahd University of Petroleum and Minerals, Dhahran, Saudi Arabia and co-author of ‘OPEC in a Post shale world – where to next?’ His latest book is on ‘Saudi Aramco 2030: Post IPO challenges’.