China's Yuan Ambitions

China is playing a growing role in discussions over solutions to current economic problems. Much of the talk has focused on money -- whether Premier Wen Jiabao's concerns about the value of China's U.S. treasury investments, or the People's Bank of China's paper floating the idea of a de-dollarized international monetary system. Up to now, one limit to China's ability to contribute to global monetary reform has been its own currency policy, particularly the fact that the yuan is not convertible. However, now there are tentative signs that's starting to change.

Beijing has signed currency swap agreements with six central banks: Hong Kong, Indonesia, Korea, Malaysia, Belarus and most recently Argentina. These swaps permit those central banks to sell yuan to local importers in those countries who want to buy Chinese goods. This is particularly useful for importers struggling to obtain trade finance as a result of the financial crisis. As such, it's consistent with China's desire to participate in the Group of 20's efforts to support trade financing.

China has long wanted its currency to play a more important role in the global financial system. These swap arrangements come in the context of that broader policy aim. The broader policy goal also has a more practical function in reducing currency exposure and transaction costs for Chinese exporters. The rise in the yuan's value relative to the dollar in early 2008 was a reason why some Chinese exporters went bankrupt. The ability to settle trade in yuan would reduce this risk in the future.

Certainly the swaps should not be mistaken for full yuan convertibility. Details are scarce, but it appears the yuan cannot be sold for other currencies, in particular, the dollar. Neither can they be used by the other countries as part of their reserves to defend their own currencies, unlike the recent swap agreements several countries have signed with the United States Federal Reserve. In large part this is because the yuan is not fully convertible. Hong Kong remains the only place where it is possible to open yuan deposit accounts, and even there daily deposits and withdrawals are capped.

Yet while the swap arrangements do not signal full convertibility, they are an important step in that direction. Even better, the Chinese authorities appear to have accelerated the reform schedule in recent months to suggest that the prospect of partial convertibility, especially between China and its major regional trading partners, may be closer than many believe.

China's State Council announced its intention in December to permit businesses in specific provinces to settle international trade-related transactions in yuan with specific trading partners. Guangdong province can settle in yuan with Hong Kong and Macau, while Guangxi and Yunnan provinces can settle in yuan with members of the Association of Southeast Asian Nations.

These are trial schemes that have yet to start, and it is still unclear how they will differ in practice from the swap agreements already in place. Hong Kong's experiments with yuan convertibility will be the most important to watch. China has a tendency to use the territory as a laboratory for financial reforms. So, the State Council's clarification on the yuan-settlement trial scheme in Hong Kong, expected soon, and the response of Hong Kong's business community, will be a good indicator of what the rest of the world can expect.

The transformation of the yuan into a global currency has begun. It will not be an overnight change, but the change may take place faster than expected. The economic crisis has provided China with a window of opportunity to leverage its relative stability and status as a trade surplus country to extend yuan credit to deficit countries globally.

(WSJ)

Argentina, China reach currency swap agreement

MEDELLIN, Colombia, March 31- Argentina's central bank considers its recent currency swap agreement with China as a contingency measure and the South American country does not need it for now, Argentine central bank president, Martin Redrado, said on Tuesday.

"This is a standby swap. At this moment Argentina does not need it," Redrado said during an investment conference on the sidelines of the Inter-American Development Bank annual meeting.

"It could be used to do operations for monetary and currency operations," he said.

The two governments signed a memorandum of understanding, creating a framework for the 70 billion yuan ($10.2 billion) swap on Sunday. The news was distributed by the official Xinhua news agency on Monday.

Zhou Xiaochuan, Governor of the People's Bank of China said on Monday that but both sides needed to work out final details.

The swap is the sixth that the PBOC has signed with central banks since December in a drive to free up trade-finance channels that have been clogged by the global credit crunch.

"The fact that China represents such a small share of Argentina's total trade (less than 12 percent) suggests limited impact on FX, but is an important political gimmick at this time (convertibility will remain an issue)," RBS wrote in a research note issued on Tuesday.

"Indeed, we have been talking out the view that it is in the government's best interest to maintain a stable exchange rate into the elections as a strong currency has been the pinnacle of the Kirchner's economic plan and is essential for moderating capital flight," RBS said.

This is China's first currency swap line into Latin America. China's bilateral trade with the region has grown from $15 billion in 2001 to roughly $140 billion in 2008, Zhou told delegates to the IADB meeting.

The PBOC has signed six bilateral currency swaps in recent weeks, totaling 650 billion yuan ($95 billion). The other five central banks that have signed agreements with the PBOC since mid-December are South Korea, Malaysia, Indonesia, Hong Kong, and Belarus.

(Reuters)

EU says G20 not to focus on China financial calls

BEIJING - Europe is comfortable with China's growing world role but believes the G20 summit will be too early to decide on Beijing's calls for more say in global financial bodies, the EU Commissioner for External Relations said on Sunday.

European Union Commissioner Benita Ferrero-Waldner told Reuters in Beijing that the London gathering of 20 major wealthy and developing powers this week would focus on "concrete results" to revive the global economy, not more distant issues.

China caused a stir ahead of the Thursday summit when it suggested the world move to greater use of IMF Special Drawing Rights as an international reserve currency.

"I don't think that this will be the question that really will be discussed thoroughly in London," Ferrero-Waldner said after talks with Chinese Foreign Minister Yang Jiechi and Vice Premier Li Keqiang.

Likewise, she said, China's call for a bigger role in the International Monetary Fund (IMF) and other international financial bodies would not be a focus of the summit.

"I think it's too early for us to give a really concrete answer," she said of these calls. "I think it is within the IMF, it is within the international financial institutions, that these questions have to be discussed."

The idea of a new reserve currency system based on the IMF special drawing rights has not been entirely knocked down, but many G20 leaders have made clear that for now the U.S. dollar's status as the dominant reserve unit remains.

Ferrero-Waldner is seeking to smooth differences between Brussels and Beijing before the G20 meeting and a planned summit between China and the EU in May.

She said China's growing economic clout naturally meant more of an international role for Beijing.

"With the prosperity of China's economy, we of course have seen more self-assertiveness in policy and diplomacy," she said, adding that Beijing had taken a "very constructive attitude" in many international issues, such as climate change negotiations.

Chinese officials were angered by French President Nicolas Sarkozy's decision to meet the Dalai Lama, Tibet's exiled Buddhist spiritual leader, in December, when France held the six-monthly rotating EU presidency.

China condemns the Dalai Lama as a separatist for demanding high-level autonomy for his homeland.

Beijing is still giving Sarkozy the cold shoulder, but relations with the EU have improved, with Premier Wen Jiabao visiting Brussels and other capitals in February.

Ferrero-Waldner said she hoped Beijing and Brussels would seal a new framework treaty governing their ties by the end of the year.

(Reuters)

China questions Dollar's dominance

The dollar's role as the world's dominant currency is coming under intense scrutiny.

This week, China added its voice to demands for a new global currency as an alternative to the dollar in international trade and finance.

It is worried that the dollar's value is being eroded by the steps the US is taking to rescue its economy from the worst financial crisis since the 1930s.

The US currency recorded its biggest weekly slide since 1985 last week, after the Federal Reserve said it would begin buying government debt to try to boost the economy, underscoring concerns.

"Calls for a new global currency come at a time when the US dollar is probably at its most vulnerable in many years," says Mitul Kotecha, global head of foreign exchange strategy at French financial services firm Calyon.

Dangers

China's central bank governor Zhou Xiaochuan called for a new reserve currency run by the International Monetary Fund.

He said the recent crisis revealed the dangers of relying on one currency.

He echoed similar calls made by Russia, which said it would bring up the topic at next week's G20 meeting.

The US response to China's unusually frank comments confused many investors.

US Treasury Secretary Timothy Geithner said he was "quite open" to China's idea, triggering a plunge in the dollar.

But he then added that the dollar was likely to remain the world's reserve currency for a long time, helping the currency to recover.

"The machinations of currency policy between the US and China are becoming increasingly intriguing," says Neil Mellor, currency strategist at Bank of New York Mellon.

China has almost $2 trillion in foreign exchange reserves, of which 65% is believed to be in dollars.

Popularity wanes

It is not unheard of for currencies to fall from grace in the global currency league.

Sterling was the dominant reserve currency of much of the world in the 18th and 19th Centuries.

The cost of fighting World Wars I and II, as well as the primacy of the US in the world economy, resulted in the pound losing its status.

And there have been anecdotal signs that the dollar's popularity as the world's currency of choice is fading.

In 2007, Indian tourist authorities said they would no longer accept dollars for entrance to the Taj Mahal.

And at home, rapper Jay-Z waved a wad of euros in a music video.

Stable reserves

To be clear, China is not calling for the US to replace the dollar as its own currency.

It is worried that the value of its reserves, which are predominantly held in dollars, is subject to the volatility of the dollar on foreign exchanges.

It has suggested that the International Monetary Fund's Special Drawing Rights (SDR) could be used as a reserve currency.

The SDR, which as created in 1969 as a unit of account, was initially pegged to the dollar, but is now based on dollars, euros, sterling and yen.

China's proposal would broaden the basket of currencies forming the SDR to include all large economies. Its use would be expanded and the IMF itself would manage some of the reserves.

The goal is to make currency reserves more stable.

Unrealistic

It is not a new idea. Economist John Maynard Keynes made a similar proposal.

But many analysts say such a move is unrealistic, even in the long term.

The dollar's appeal as a reserve currency is the depth and liquidity of US financial markets, says Mark Williams, international economist at Capital Economics.

This is something which the little-used SDR cannot compete with.

Even the world's next most traded currency, the euro, has not emerged as a true competitor to the dollar.

According to the IMF, the dollar accounts for 65% of declared currency reserves. This is down from 73% in 2001, but the decline also reflects the euro's higher value.

"If the euro falls short, it is hard to see markets for assets denominated in a new currency ever becoming developed enough for it to have a chance of dislodging the dollar, " Mr Williams says.

Furthermore, if China were to ditch the dollar, it would have to tread carefully.

Any suggestion that it is diversifying away from the dollar would dramatically undermine the value of its own reserves.

'Massive impact'

But as the world's largest holder of dollars, China's comments cannot easily be dismissed.

Should reserve managers begin to shift away from the dollar, it would have a "massive impact" on US markets, says Mr Kotecha at Calyon.

The huge appetite for dollars from countries such as China helped keep US mortgage rates low - in part causing the crisis the US economy currently faces.

If foreign investors shy away from buying US debt, it could lead to problems financing the Obama administration's stimulus spending plans.

As such, the US is likely to keep China and other large reserve holders on side and pay lip service to China's demands, even if they are unrealistic.

"It's a pointed reminder that China holds some key cards in its game of diplomatic poker with the US," says Mr Mellor at Bank of New York Mellon.

(BBC)

China to allow free yuan trades

China has said it is to allow some trade with its neighbours to be settled with its currency, the yuan.

The pilot scheme was announced in a package of measures designed to help exporters hit by the global downturn.

It means if the two parties to a trade have yuan available, they need not enter world exchange markets to pay.

Most of China's foreign trade is settled in US dollars or the euro, leaving exporters vulnerable to exchange rate fluctuations.

The yuan is not yet a freely convertible currency.

Officials did not say when the trial scheme would start.

When it does, the yuan could be used to settle trade between parts of eastern China (Guangdong and the Yangtze River delta) and the territories of Hong Kong and Macau, and between south-west China (Guangxi and Yunnan) and the Asean group of countries (Brunei, Burma, Cambodia, Indonesia, Laos, Malaysia, the Philippines, Singapore, Thailand and Vietnam).

Spreading yuan

Analysts told Chinese media that the yuan was already being used in some South East Asian countries and that China was happy to see such use extended.

They also agreed that the measure was intended to help companies cope with the global financial meltdown, even though buying and selling the currency requires the presentation of legitimate trade documents to banks.

The latest measure follows Beijing's announcement earlier this month of a 30-point directive in which it vowed to "support the development of yuan business in Hong Kong" and expand the use of the currency to settle trade with neighbouring countries.

Central bank governor Zhou Xiaochuan was quoted by the South China Morning Post as saying: "The US dollar is unlikely to be stable next year and later.

"And the likelihood of the United States issuing more money in the near future adds to the depreciation risk in US-dollar-denominated assets and trade settlements."

He also reportedly said that Guangxi, a province in southern China, had already been settling trade with Vietnam in yuan for some time.

Spurs to spend

A document released after a meeting of China's State Council on Wednesday announced more measures to stimulate domestic consumption.

These include subsidies to rural households for the purchase of household appliances and other goods, and the setting up of new stores and distribution centres in rural areas.

The document called for the renovation of urban food markets, the provision of more variety of goods on sale, the setting up of more second-hand markets, incentives for distribution companies to merge and consolidate, and support of small and medium-sized enterprises.

The state news agency Xinhua said the government intended to raise export tax rebates for high-technology products, to encourage foreign investment, extend customs and inspections services, lower inspection fee for exports and strengthen trade relations in emerging markets.

Analysts said the ideas, though vague, indicated growing concern among China's policy makers about the domestic impact of the current global financial turmoil.

Powered by exports, China's economy has grown by double digits in recent years.

In November, official figures showed a 2.2 percent drop in exports, the first decline in more than seven years.

(BBC)