Although the US dollar continues to be the predominant global reserve currency, its influence is gradually diminishing.
In 2001, the US dollar accounted for 73% of global reserves, enjoying its “undisputed hegemonic reserve” status, whereas as of the fourth quarter of 2022, only more than 58% of global reserves are held in the US dollar, according to data from the International Monetary Fund (IMF).
Moving away from the US dollar
An increasing number of countries, including Brazil and Southeast Asian nations, are advocating for conducting trade using currencies other than the US dollar.
In March 2023, Banco BOCOM BBM, a banking institution operating in Brazil, made history by becoming the first Latin American bank to enrol as a direct participant in China's Cross-border Interbank Payment System (CIPS). The aim is to boost liquidity and give investors and traders more options.
The BRICS collective, consisting of Brazil, Russia, India, China, and South Africa, is engaged in discussions regarding the establishment of a common currency that will reduce dependence on the US dollar.
This effort coincides with calls from Moscow and Beijing for de-dollarisation in response to Western sanctions. Furthermore, Saudi Arabia is contemplating the acceptance of the RMB instead of the US dollar for some oil sales to China.
What do these recent developments portend for RMB internationalisation?
The increasing usage of the RMB stems not only from China’s status as the world's second-largest economy but also from its dominant position in global trade.
Internationalisation of RMB poised to accelerate
1. Increased usage of RMB
The People's Bank of China (PBOC) has successively signed bilateral currency swap agreements with central banks or monetary authorities from 40 countries and regions, with a total value exceeding 4 trillion yuan, said Pan Gongsheng, deputy governor of PBOC in March 2023.
In addition, Chinese official data revealed that in March, RMB surpassed the dollar for the first time to become the most extensively used currency for cross-border transactions in China. The RMB was used in 48.4% of all cross-border transactions, Reuters calculated, while the dollar's share declined to 46.7% from 48.6% a month earlier.
The increasing usage of the RMB stems not only from China’s status as the world's second-largest economy but also from its dominant position in global trade.
In 2021, China accounted for 15.07% of the world’s merchandise exports and its commercial service exports amounted to around 6.52% of the global total. With this network effect, the potential is great for RMB to be recognised as an alternative currency in cross-border trading.
In addition, the China-Hong Kong Swap Connect scheme which creates "a connection between financial infrastructure institutions in the Hong Kong and Mainland China markets" was launched on 15 May, providing international investors with the opportunity to enter the mainland China interbank financial derivatives market. The initiative is expected to attract additional capital to China and enhance the status of the RMB as a global currency.
2. Reduced reliance on the US dollar
Many emerging economies have been advocating a shift away from the US dollar for quite some time, though the dominance of the greenback persists.
Due to significant inflationary pressures, the US Federal Reserve has aggressively raised interest rates since 2022, resulting in an appreciation in the US dollar.
On the one hand, other economies would need to tighten their monetary policies to prevent their currencies from depreciating too much against the dollar. But doing so will aggravate domestic inflation.
...in the fourth quarter of 2022, Brazil's economy experienced a contraction of 0.2%, reflecting the adverse effects of elevated consumer prices and significant interest rate increases.
On the other hand, emerging economies that do not tighten their monetary policies will find themselves facing significant costs in servicing their dollar-denominated debts.
For instance, in the fourth quarter of 2022, Brazil's economy experienced a contraction of 0.2%, reflecting the adverse effects of elevated consumer prices and significant interest rate increases. This could be one of the reasons why Brazil’s president, Luiz Inàcio Lula da Silva, is eager to call for an end to dollar trade dominance.
Last year, a Wall Street Journal report said that Saudi Arabia is engaged in active discussions with China regarding the possibility of pricing a portion of its oil sales in RMB. Earlier this year at the World Economic Forum (WEF) in Davos, Saudi Arabia’s finance minister, Mohammed Al-Jadaan, indicated that the country was open to discussing settling their trade arrangements in other currencies other than the US dollar.
This development has the potential to dent the dollar's supremacy in the global petroleum market and signifies another step taken by the world's leading crude oil exporter towards closer ties with Asia.
3. Making efforts to create a new currency
China has put in long-term efforts to promote RMB internationalisation, but it has no intention of letting the currency replace the international status of the US dollar.
Presently, China is unlikely to relinquish its capital controls, which determine the extent of permitted foreign presence in its financial markets.
...if a "BRICS currency" were to be introduced successfully, it would undoubtedly be appealing to many developing countries.
Chinese financial markets currently lack the necessary sophistication to effectively manage significant capital inflows and outflows during volatile periods. Hence, creating a new currency in an economic zone could be an option to realise the objectives of de-dollarisation.
The issuance of a new currency among BRICS governments would be a complex process. It would likely require a considerable amount of time to reach an agreement, particularly for countries that are not geographically adjacent and have their separate domestic currencies.
However, if a "BRICS currency" were to be introduced successfully, it would undoubtedly be appealing to many developing countries. What this implies is the diminished influence of the US dollar and the US economy on other parts of the world. US-imposed financial sanctions for achieving certain foreign policy objectives will also become less effective.
Currently, the conditions are favourable for greater internationalisation of the RMB.
As countries move away from the greenback, they will try to use their currencies or other alternative currencies to settle international trade.
Based on CNBC’s calculations, China was the largest trading partner to 61 countries when both imports and exports are considered. Furthermore, some nations in ASEAN and BRICS have expressed their intention to conduct trade settlements in either RMB or their currencies. The internationalisation of the RMB is poised to accelerate.
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