Yuan gains strength globally

(Ecns.cn) – The current economic weakness of the US stands in sharp contrast to China's vitality in the global economy. The liquidity of the US dollar is suffering a continuing decline while the Chinese yuan's status is being consolidated, reported China News Week.

The Asian market has obviously started to doubt the strategy of a currency reserve that uses the dollar, although it has been in place for ages. Instead, many countries have become more interested in the Chinese yuan, hoping it will prove a new safe haven against economic uncertainty.

Japan pact raises yuan's status

In the last week of 2011, Japanese Prime Minster Yoshihiko Noda paid a visit to China, during which Chinese Premier Wen Jiabao agreed China is willing to work with Japan to promote the direct use of their own national currencies in bilateral trade, without first converting to American dollars.

Soon the People's Bank of China (PBOC) declared on its website that the Chinese and Japanese leadership had agreed to strengthen cooperation in the financial markets of the two countries and encourage more bilateral financial transactions.

This is a step on the path to the yuan's internalization, which is seen as the most significant breakthrough since the 2005 revaluation. Analysts point out a notable example has been provided for other countries to follow.

Using the yuan to avoid risk

On December 30, 2011, the final trading day of the year, the yuan hit a new high against the U.S. dollar (6.2940) the first time it entered the era of "6.2000 plus." Throughout the year, the yuan has strengthened by more than 5 percent against the dollar.

Also in 2011, the scale of Sina-Japanese bilateral trade volumes has grown larger than US$300, up 15 percent compared to the previous year. However, as over 60 percent of the bilateral trade was settled with the US dollar, the two countries ran significant risks whenever there were swings in the dollar's value.

Now with China and Japan bonding over trade, this currency agreement is predicted to work effectively in reducing such risks for exporters in the two countries.

Though an implementation timetable for the reforms has not yet been released, this innovative agreement is already signaling possible changes to the status quo of the world's financial system.

As agreed, Japan will hold Chinese bonds as part of its foreign-exchange reserves, and Japanese companies will be allowed to issue RMB bonds in Tokyo and other overseas markets. Meanwhile, the PBOC has approved a trial program of RMB-bonds issues by the Japan Bank for International Cooperation in the Chinese mainland.

Furthermore, in December 2011, Japanese Finance Minister Jun Azumi revealed his government will buy over time yuan-denominated bonds valued at about 64 billion yuan (US$10.1 billion). This is seen as an important step toward Japan's wider diversification and shift of focus from the US dollar.

It is a vote of confidence in the yuan, and will help confer "hard-currency" status to the Chinese currency, said Shen Jianguang, a Hong Kong-based economist at Mizuho Securities Asia Ltd.

Offshore yuan market

The part of the agreement that deals with the RMB-bond offshore market has attracted much attention; the Japanese government will set up a new offshore market for RMB-bond transactions and Japanese companies are thus allowed to issue RMB bonds in Tokyo and other overseas markets.

By that time, Japan will be another important offshore yuan market, in line after Hong Kong, strengthening itself to compete with London and Singapore, places currently making big efforts to gain this status.

Last year was obviously a year in which the Chinese currency made many achievements promoting itself in cross-border trade and offshore RMB-bond issuing.

For example, Hong Kong, as the most important "dim sum" bond market – yuan-denominated bonds issued in Hong Kong for foreign buyers – its size has reached 170 billion yuan (US$26.9 billion) in 2011, according to China News Week.

Meanwhile, with Europe's debt crisis clouding 2011, the situation has indirectly impelled European enterprises to use RMB-bonds in financing deals.

The potential of the yuan is also reflected in other ways, including currency swaps with 13 countries and regions. On December 22 and 23, prospectively, the PBOC signed agreements on bilateral currency swapa with Thailand and Pakistan. During his visit to China in September, 2011, SanusiLamido, governor of the Central Bank of Nigeria also said the country will consider holding the Chinese currency in its foreign-exchange reserves.

Though the progress of yuan's internationalization is fuel for optimism, there is still a long way to go. Currently, the yuan is still being underestimated. If the Chinese currency wants a higher status in the world, the government must push forward its reforms on the RMB interest rate system and the country's capital markets, as liberalization is key to this goal, said ShenJianguang.