When China’s home-grown ARJ21 regional jet was delivered to Indonesian airline TransNusa in May, the leasing deal was carried out using the yuan, with the arrangement hailed as a milestone in the internationalisation of the Chinese currency.
“This pioneering transaction highlights the high level of openness in the Lingang Special Area, promoting yuan internationalisation and strengthening international cooperation,” the Shanghai government said at the start of June.
The aircraft was exported through Lingang, a free-trade zone in southeast Shanghai that was set up in 2019 to promote foreign investment and financial opening-up.
China’s growing economic influence and trade with the rest of the world has made the yuan more acceptable to foreign countries compared to 20 years ago when Beijing first began to experiment easing its capital controls.
Over the years, the yuan’s share in China’s cross border payment has climbed significantly, reflecting rising global confidence in settling trade and investment in yuan.
In the first half of 2024, the yuan made up 52 per cent of China’s cross border payments and receipts compared with 43 per cent for the US dollar, according to estimates from ANZ bank.
A strong currency means everyone would like to hold it
Ten years ago, the figures stood at 23 per cent and 67 per cent, respectively, according to ANZ.
Amid China’s pursuit of building the world’s second-largest economy into a “financial power”, a strong currency and infrastructure are key parts of the goal championed by President Xi Jinping, highlighting Beijing’s desire to boost the global status of the yuan and its role in international finance.
“A strong currency means everyone would like to hold it,” said Xia Le, chief economist for Asia at BBVA Research.
“It also means it could be used in financing, like the US dollar. It is a currency that can be used in multiple venues.”
In July, the yuan retained its position as the fourth most active currency for global payments by value, with a record-high share of 4.74 per cent, compared to the US dollar’s 47.81 per cent, according to data from the Society for Worldwide Interbank Financial Telecommunication (Swift), the world’s largest interbank messaging service.
“It’s come to a certain stage that the use of yuan is no longer unfamiliar to foreign countries,” said Xia, who led research on the progress of yuan internationalisation in Spain, Mexico, Turkey, Colombia, Peru, Argentina, Venezuela and Brazil last year.
“Whether it’s an Indonesian airline buying a plane [in yuan] or any other [products], those countries that have close trade ties and international relations with China will use the yuan more.”
The People’s Bank of China has signed 40 bilateral swap lines, which act as line of credit so that other central banks are able to exchange their local currencies for the yuan. These swap lines are intended to facilitate local currencies being used in trade.
As of the end of 2023, the PBOC’s bilateral swap lines had reached 4.2 trillion yuan (US$590 billion).
China has sought to maintain a relatively stable currency to advance its yuan internationalisation ambitions, and before the US Federal Reserve began to aggressively raise rates in March 2022, the yuan had been slowly appreciating against the US dollar since 2020.
In the last two years, depreciation pressure in emerging currencies against the US dollar, inflation and Washington’s increasing use of its financial power to impose economic sanctions have brought new demand for alternatives to the US dollar-denominated financial infrastructure that covers payment, financing and investment.
After Russia’s invasion of Ukraine in 2022, Russian banks were blocked from Swift, which forms a crucial part of the global financial infrastructure when it comes to processing of global payments.
And the yuan’s share in Russia’s exports increased from 0.4 per cent two years ago to 34.5 per cent so far this year, while its share in imports has risen from 4.3 per cent to 36.4 per cent during the same period, according to Russian central bank governor Elvira Nabiullina.
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The escalating use of yuan in trade by Russia has also fuelled interest in other emerging countries that want to expand trade with China, highlighted by recent talks between financial authorities in Thailand and Hong Kong.
“The users are looking for it. China’s central bank, along with the Hong Kong Monetary Authority (HKMA), have the special role and ability to build this structure,” said Wilson Chan Fung-cheung, associate director of City University of Hong Kong’s master of business administration programme.
In January, the Bank of Thailand and the HKMA, Hong Kong’s de facto central bank, discussed the use of local currencies in cross-border trade, financial digitalisation and fintech, and potential initiatives to enhance cooperation between the financial sectors in Thailand and Hong Kong.
The HKMA has also engaged with financial authorities in Malaysia, Saudi Arabia and the United Arab Emirates over similar initiatives.
“The financial infrastructure for currency settlement built by several central banks is in fact representative of the market needs, especially for the developing countries, which have to reduce the settlement risks by using Swift,” Chan said.
In addition to gaining ground in global payments and trade, the yuan is also increasingly used in financing, thanks to the large interest rate differentials with the US dollar, making it a relatively low cost currency to fund borrowing, as reflected in the surge in so-called Panda and dim sum bonds.
While the wide gap between US dollar and yuan rates may narrow, the key is the yuan is considered and compared in fundraising activities
Yuan-denominated bonds, issued by offshore companies on the mainland Chinese interbank market – known as panda bonds – have grown in popularity over the past year after the Chinese government allowed the proceeds to be repatriated offshore in 2022.
Panda bonds allow foreign companies, particularly those with subsidiaries in mainland China, to tap into a deep investor base and find the yuan capital they need at attractive rates.
In the first half of 2024, 110.3 billion yuan of panda bonds were issued in mainland China’s interbank market, up by 54 per cent compared to the same period in 2023, according to China Chengxin Credit Rating Group.
Meanwhile, in the first half of 2024, 486.5 billion worth of offshore yuan bonds – known as dim sum bonds – were issued, representing an increase of 23 per cent compared with the same period in 2023, according to CSPI Ratings.
Dim sum bonds are yuan-denominated bonds that are issued outside mainland China, including in Hong Kong.
“While the wide gap between US dollar and yuan rates may narrow, the key is the yuan is considered and compared in fundraising activities, which reflect to a certain extent its status in the international market,” said Frances Cheung, head of foreign exchange and rates strategy at Singapore’s OCBC Bank.
To compete with Singapore and London, Hong Kong has invested in its financial infrastructure, offering an alternative to the US dollar-dominated system, while serving as a superconnector between mainland China and international financial markets.
But yuan internationalisation has been proceeding under a binding constraint that the Chinese authorities continue to maintain a tight control of fund flows under its capital account, and currency stability remains a top priority, even in the largest offshore yuan centre of Hong Kong.
Data from the HKMA showed that yuan deposits fell by 6.4 per cent to 1.06 trillion in June, while by comparison, the balance of yuan deposits stood at 295.72 trillion yuan in mainland China in June, according to the PBOC.
“Around 80 per cent of the global offshore yuan transactions took place in Hong Kong. However, the size of the offshore yuan as compared to the domestic yuan market is still very small,” said Heiwai Tang, an economics professor and associate dean at the University of Hong Kong Business School.
BBVA’s Xia said China would be mindful of how much influence the offshore markets have on the yuan’s exchange rate, its economy and financial stability.
And as much as the PBOC wants to promote its yuan swap lines for settling trade, the central bank is also wary of other countries’ access to large amounts of yuan funds for other uses because it could introduce depreciation pressure, Xia added.
“For a truly international currency, its [market] value isn’t necessarily determined by the currency country,” Xia said.
“If the yuan is to truly become an international currency, I believe its value will be driven more by offshore markets like Hong Kong.”
Due to global monetary policy divergence and weak domestic sentiment, China has seen large capital outflows since last year.
On a trailing 12-month basis – data from the past 12 consecutive months – net capital outflows stood at US$139 billion in May, according to French investment bank Natixis.
And since 2018, rising trade conflict between China and the United States have introduced instability in global supply chains, while restrictions and tariffs facing Chinese exporters in their biggest markets have also weighed on the outlook for the internationalisation of the yuan.
The balance of the PBOC’s bilateral yuan swap used by foreign monetary authorities accounted for just 2.8 per cent of bilateral local currency swap contracts at the end of last year, according to the Chinese central bank.
It is almost impossible to promote the internationalisation of the yuan by market forces alone
And data from the International Monetary Fund showed that the yuan’s share of global reserves has declined since 2022.
He Wei, China economist at Gavekal Dragonomics, said geopolitical risks emanating from tense relations between China and US are key reasons that some central banks have refrained from holding more yuan-denominated treasury bonds in their reserves.
In an interview published in June with the Guangdong-based Southern Daily, Yu Yongding, former adviser to the PBOC, said that yuan internationalisation should be approached as a long-term objective rather than an urgent task, even though the “weaponisation of the US dollar” has created a demand for a bigger role of yuan.
“China’s economic system has not yet completed market-oriented reforms, and its institutions tend to distort the market. It is almost impossible to promote the internationalisation of the yuan by market forces alone,” Yu said, adding that Chinese policymakers have not truly prioritised dethroning the US dollar.
The PBOC said in its second quarter monetary report at the start of August that it would “steadily and prudently” promote internationalisation of the yuan, further expand its use in cross-border trade and investment, deepen cooperation with foreign currencies and develop the offshore yuan market.
It said it would also carry out pilot projects for high-level opening up of cross-border trade and investment.
If you are holding the yuan, you want assets that you are comfortable with
Amid China’s financial superpower drive, analysts said such goals mean policymakers would like to see more foreign investment in the yuan-denominated assets.
“The attractiveness of the financial markets in China is a constraint to foreign investors holding the yuan. If you are holding the yuan, you want assets that you are comfortable with,” He at Gavekal added.
BBVA’s research found that Argentina, Brazil, Venezuela and Turkey were actively seeking to increase the yuan usage in their cross-border transactions.
Peru and Colombia could potentially adopt cross-border yuan payments in the near future, BBVA said.
But Mexico and Spain are likely to stick with their traditional trade ties, preferring to use the US dollar and the euro.
“However, the developed economies are collectively much bigger and wealthier, so, if they continue to move away from their trade and investment ties with China, it will be difficult for yuan to become a truly international currency, which is especially true when it comes to yuan as a cross-border investment currency,” said Chen Zhiwu, chair professor of finance at the University of Hong Kong.
