A New Reserve Currency Made in China

When the Euro was introduced in 1999, Europe was likely dreaming that its multinational currency could one day overtake the dollar as the international reserve currency.  But, among other countries, the old continent has had severe problems with Spain — today its the third country to be downgraded by Standard & Poors — and China’s currency is instead looking more and more like the replacement currency.

Granted, the dollar has gained significant strength in the last couple of weeks. However, this resurgence is more due to the loss of faith in the European currency then belief in the strength of the greenback. Therefore, it makes sense to pay new attention to what China has been up to in the last couple of months.

According to the Financial Times:

“China is encouraging exporters to invoice in the renminbi and is setting up systems to allow trade payments in renminbi. This make sense. China’s trade is soaring. New trade corridors may soon require new means of payment. When the Chinese and Brazilian Presidents met last year they agreed to use their own currencies to settle more of their bilateral trade, rather than invoicing in dollars. Although viewed as symbolic, it is a sign of things to come.

“The crisis also saw China sign a host of bilateral currency swap agreements with countries ranging from Indonesia to Belarus and Argentina. China’s growing trade and financial links with the rest of the world will make the renminbi more acceptable.

“Gradualism dictates the Chinese approach to most policy measures. The process is logical. Look at the theory, examine the pros and cons, debate the issue, implement slowly and observe. If the project works, roll it out. On that basis, there is more to come.

“Since a pilot programme started in July 2009 the volume of international trade settled in the Chinese currency has totalled Rmb11.6bn ($1.7bn). Although only 0.1 per cent of Chinese trade in that time, it has gathered momentum. This has encouraged the authorities to expand the programme.”

One reason the dollar has been so strong is that countries have been willing to hold their reserves in the US currency. They have done so because when two countries trade with each other they do not want to hold one anothers’ currency, but rather denote the price and pay in dollars. This standard agreement could now be undermined by China. If countries continue to lose their willingness to hold the dollar the impact to the US could be as dramatic as a euro collapse. Visit the Financial Times to read how China is undermining the dollar by the back-door.


Rocky Vega,
The Daily Reckoning