When in January of this year, Saudi Arabia started accepted payments in yuan from China for its oil, there was much chatter about the dollar losing its cachet in international trade. Long sought by China, such a decision furthers Beijing’s goal to establish its currency internationally as a substitute for denominating world trade in dollars. But last week, India – a fellow member of BRICS – threw a spanner into the works when it refused to pay for oil from Russia in yuan in preference to the US dollar. This demonstrates that any transition away from the dollar as the world’s effective reserve currency will not be smooth.
The precedent that China is hoping to follow, of course, is the US dollar replacing the British pound sterling after WWII as the major currency for world trade, after the latter dominated for two hundred years. After the Great Depression and two World Wars, the US economy had far surpassed the British and with the new global financial institutions such as the Bretton Woods IMF and World Bank under their effective control, the dollar was facilitated to become the world reserve currency.
For its replacement, one commentator has argued: “A successor reserve currency would need to have a large enough economy with capital markets open to foreign investors with perceived-to-be-fair trading markets and well-regulated institutions. Foreigners who wind up holding the reserve currency will be subject to its rule of law of the reserve currency country, such as it is. Even if they simply keep it in cash at a bank in their country, it will need either to have a banking licence in the reserve currency country or be a correspondent with one of its banks. And that correspondent agreement will be subject to reserve currency country law. If the foreign party would rather hold securities, the foreign party again has to be mindful of the integrity of securities regulation and the oversight of brokers and exchanges.
Ironically, the US model of highly-efficient markets with investors having extremely weak governance rights helped support the US as reserve currency. The US could tolerate having foreign investors in public US companies so long as they did not buy a stake in a perceived-to-be-important player big enough to give a foreign owner influence. The US does meddle if that looks likely to happen.
The euro was once seen as a potential competitor to the dollar, but its protracted post-Global Financial Crisis banking/sovereign debt crisis, which was never fully resolved, put paid to that idea.”
The Chinese renminbi is the logical successor to the dollar, but China does not seem willing to take the steps to have that happen. In the post-Bretton Woods regime, a country wanting to have its currency serve as a vehicle for transactions outside the country (as in independent of bilateral transactions with the country) needs to get it in circulation outside its borders. That means running trade deficits. China is unwilling to do that, since a trade deficit is tantamount to exporting jobs. Wage growth and high levels of employment are imperative to the legitimacy of their regime. China would also need open capital markets, transparency regulations, etc, that it is unwilling to initiate.
As another analyst concluded, “(D)o not expect some overarching alternative to the dollar as global reserve currency to be in place any time soon. Institutional stickiness and the relative lack of attractive currencies to hold drive that, as well as the realisation that a Euro / SDR / Keynesian Bancor type arrangement concedes national sovereignty. Instead we are likely to end up with a multiplicity of arrangements associated with bilateral relationships between “non-dollar” states who may choose to hold each other’s currencies on a portfolio basis, for example.
The dollar will likely stay hegemonic as reserve currency in the “western” bloc though, barring some total catastrophic event that cannot be foreseen at the moment.”
The move by India, even though it is also committed to a new reserve currency supports this assessment.
