Australia
China
India
Indonesia
Japan
Malaysia
Philippines
Singapore
South Korea
Taiwan
Thailand
Vietnam
China’s ambition to become a global superpower is well-known and the past two decades have been instrumental in the country’s rise as the world’s second-largest economy, behind the US. China’s fast pace of development has threatened the US dominance in global financial markets, with the most recent offensive being the launch of a China digital currency. China’s digital yuan has once again come into the limelight owing to the Russia-Ukraine war, with analysts saying Russia could adopt the yuan as a reserve currency even as the world sanctions it.
The renminbi, or Chinese yuan, is being used by China to assert its dominance in global markets, especially in the past 20 years as the country has been trying to internationalize the currency. The goal has been to create a stable international monetary environment for China’s economic development with minimal risk of geopolitical issues.
China has been innovating in financial markets, particularly experimenting with blockchain and fintech, which has attracted investment in yuan-denominated instruments, writes BNY Mellon. China digital currency, or e-CNY, takes cues from cryptocurrency but is centralized and controlled by the government.
Renminbi vs US Dollar
The US dollar is the reserve currency of the world and the majority of the currencies in the world are pegged against the USD. The dollar’s rise to prominence happened after the Bretton Woods Agreement, under which the dollar was free-floated and delinked from gold reserves.
For the longest time, the dollar dominance remained unchallenged. Back in 2005, University of California economist Barry Eichengreen wrote a paper stating dollar’s dominance will not be threatened by the Chinese yuan for at least 20 or even 40 years. However, China’s rise on the global economic front has led to the beginning of an era where the USD’s reserve status is under a threat, as per BNY Mellon.
As of 2020, the IMF records show that the USD forms 62% of global currency reserves, whereas the Chinese yuan has a mere 2% share.
A research paper by The Hong Kong University says that China advocates using a super sovereign currency (SDR) as the global reserve currency. It also wants its main trading partners to peg their currencies against the renminbi. One of the ways China can internationalize the use of the yuan is by establishing offshore RMB markets, and Beijing is taking steps to make the RMB more convertible in the capital account.
China digital currency – The digital yuan
BNY Mellon says USDs supremacy is linked to the US providing financial resources to generate external demand for US goods and services. Beijing is now attempting the same with the Belt and Road Initiative (BRI) and funding infrastructure in emerging markets. However, RMB internationalization and adoption as a reserve currency has been slow due to a lack of deliverability. For this, China is using technology to bypass the current dollar-based international financial system altogether.
A couple of years ago China announced the digital renminbi, or the digital yuan, a currency taking cues from cryptocurrencies such as Bitcoin and Ether. China has banned Bitcoin and has marketed the digital yuan, or e-CNY as it is popularly termed, as the state-issued digital currency pegged 1:1 against the fiat currency. The digital yuan is officially called the Digital Currency Electronic Payment (DCEP) and will be issued by the People’s Bank of China. While it shares similarities with cryptocurrencies, the e-CNY is not decentralized and does not operate on a blockchain.
The e-CNY will replace the amount of cash in circulation and will have the same value as the RMB. The central bank will issue the digital yuan to commercial banks, which will then distribute them to citizens.
Based on how it is structured, the digital yuan seems like a payment option that can potentially threaten third-party payments apps such as Alipay and WeChat Pay. However, there is a fundamental difference – e-CNY can be used for transactions without the internet — meaning that it will function like physical currency stored on a user’s phone or any other electronic device.
“Digital wallets (Alipay, WeChat Pay) are carriers that offer the IT infrastructure to support the use of this currency,” said Mu Changchun, the director-general of the digital currency research institute at the People’s Bank of China (PBOC). This is in line with China’s ban on private virtual currencies issued by any company. Presently, WeChat Pay and Alipay do not allow cross-platform payments, but the e-CNY offers more flexibility as it allows users to pay for any service anywhere.
In early April, Beijing launched the beta version of the digital yuan app for iOS and Android, allowing users in 23 Chinese cities to pay for services using e-CNY. This is the first public beta of the currency and Chinese citizens can sign-up to use it through seven traditional commercial banks and two online banks, reports China Briefing. Digital yuan was first launched in April 2020 on a trial basis with select users in four cities. The solution now has 1.2 billion users with 750 million daily active users.
A threat to the dollar?
Richard Turrin, author of ‘Cashless: China’s Digital Currency Revolution’ tells CNBC that the digital yuan will slowly supplant the dollar when buying things from China — the manufacturing hub of the world.
At present, foreign investors do not have access to digital yuan unless they are domiciled in the cities where the beta is available. In theory, if China decides to decouple the digital yuan from its traditional banks, foreigners may get a chance to hold the digital currency in their wallets without having a bank account in China.
While the operations of the digital yuan are currently limited to the mainland, there is a possibility it will make inroads in cross-border payments, which is where a threat to the USD will ensue. Last year, China said it was exploring cross-border payments using the digital yuan. If China decides to settle trade using the digital yuan, it won’t need the hefty USD reserves and will be shielded from any potential sanctions from Washington. A cross-border digital payments system means China is setting the stage for fuller yuan convertibility, which would accelerate the use of the currency in foreign exchange settlements, writes Nikkei.
However, China is still a long way from dethroning the US dollar. BNY Mellon says that even if China is willing to trade in digital yuan, the counterparty must accept digital yuan. Carnegie India in a report said that China will have to build a payments infrastructure to facilitate the use of its digital yuan and incentivise its use.
