The Yuan Will Not Replace the Dollar Any Time Soon, if Ever
For several years, financial media have speculated about when China’s yuan might replace the U.S. dollar as the world’s leading international currency, often referred to as the “global reserve.” However, this transition appears unlikely to happen any time soon, if ever.
As an export-oriented economy, China’s prosperity is heavily linked to trade with the United States, which accounts for 3 percent of China’s gross domestic product (GDP). This significant economic interdependence makes Chinese trade negotiators cautious about provoking their American counterparts with bold claims regarding currency matters.
On a more fundamental level, Chinese authorities are aware, or should be aware, of how far the yuan is from achieving global reserve status. Although the dominance of the U.S. economy and the dollar has waned compared to previous decades, no other currency, including the yuan, possesses the necessary attributes to usurp the dollar’s role on the global stage. The yuan’s potential emergence as a dollar replacement is further tempered by the realization that this would only be possible if the Chinese Communist Party (CCP) were willing to relax its tight financial and currency controls, which it highly values and is unlikely to relinquish.
Despite ongoing efforts and considerable expense to elevate its status, the dollar continues to dominate international trade and finance. Approximately 80 percent of global trade is conducted in dollars, regardless of American involvement, with the dollar featuring in around 90 percent of all currency transactions. In stark contrast, the yuan appears in only 4 percent of such transactions, while the euro accounts for 30 percent. A typical currency conversion involving Egyptian pounds and yuan often goes through the dollar. The complex global relationships that back the dollar have been built over many years, and it would take a similar length of time for the yuan to develop comparable standing.
Liquidity poses another significant challenge for the yuan. Dollar markets operate 24/7, allowing for the trade of dollars and dollar assets around the clock. These markets are vast and sophisticated, enabling the movement of large sums with minimal impact on the prices of currencies or financial assets. Additionally, the diversity of financial instruments available in dollar markets attracts traders and their financial backers, who must hold balances in the currency serving as the “global reserve.” These essential market participants value these characteristics and recognize that yuan-based markets cannot currently compete.
Even under the best circumstances, the CCP would face years of effort and strategic promotion to begin challenging the dollar’s global supremacy. It is unclear if Beijing is ready to make the necessary sacrifices for such a transition. For example, allowing the yuan to float freely on global currency markets would require the abandonment of tight regulatory control over its foreign-exchange value.
Furthermore, to provide the liquidity and variety of investment instruments needed by exporters, importers, and their financial backers, Beijing would have to relinquish its current stringent control over capital and investment flows in and out of the country. Although these adjustments are theoretically feasible, they contradict the CCP’s focus on control. Consequently, the yuan’s bid for global reserve status is seriously hampered right from the start in its competition with the dollar.
