China forced to support dollar to make yuan become convertible currency

China is uncomfortable about being the principal creditor of the United States. Asia’s largest nation became the hostage of the US economy in the 21st century. The reserves of the People’s Republic of China are based on dollar assets - $2 trillion. US Treasury Bonds make $700 billion of the amount. China is forced to continue crediting the budget deficit of the United States not to let these reserves go down in value.

However, China has been taking measures to overcome its dollar dependence. The head of the Chinese Central Bank put forward a suggestion in March of the current year to replace the dollar, as the international reserve currency, with the basket of currencies, which would be determined by the International Reserve Fund.

The most ambitious project is this direction is to grant the Chinese yuan the status of the reserve currency. Western observers were quite skeptic about such an idea. China would have to turn the yuan into a convertible currency, the rate of which would be determined by the market.

The idea to make the yuan a convertible currency appeared during the 1990s, but it never became a reality because of the economic crisis of 1997.

China’s financial steps of the recent two months convinced Western experts of the nation’s intention to make the yuan become a hard currency, which could be converted into other currencies freely.

Last year, Beijing finished negotiations on establishing mutual settlements in national currencies with Argentina, Hong Kong, Indonesia, Malaysia, South Korea and several other countries. Technically, China will not need US dollars in commercial activities with those countries. China’s turnover with the above-mentioned states totals $95 billion. For comparison, China’s trading volume with the USA made up $333 billion in 2008.

The yuan will have to obtain liquidity and yuan-denominated bonds to be recognized as a strong currency in the world. For the time being, the yuan-denominated securities can be purchased and sold only in China.

HSBC Holding and the Bank of East Asia announced last week that they would become the first foreign banks to sell Chinese bonds.

The Chinese administration plans to take the yuan to the level of a serious reserve currency by 2020. The timeline coincides with the plans to create an international financial center in Shanghai, just like London or New York.

Nevertheless, China will have to continue buying US Treasury Bonds before the yuan becomes a full-fledged reserve currency. Like other dollar-dependant countries (Japan, Arab states), China will have to do its best to postpone the decline of the dollar.

Sergey Malinin.

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Author`s name Dmitry Sudakov