The rise of the yuan as a trade currency reflects not only China’s growing economic influence but also the changing dynamics of international trade and finance in an increasingly multipolar world. This development marks a crucial milestone in China’s ongoing efforts to establish the yuan as a major player in the global financial system. The rise of the yuan as a trade currency reflects not only China’s growing economic influence but also the changing dynamics of international trade and finance in an increasingly multipolar world.

The Yuan’s Ascent in Global Trade Finance

The yuan’s share in global trade finance has seen a remarkable increase, jumping from 3.9% at the beginning of 2023 to 5.8% by September of the same year. This surge has enabled the Chinese currency to overtake the euro for the first time in this arena. The primary driver behind this growth has been the attractiveness of Chinese banks’ low interest rates, which have drawn companies from around the world to borrow in yuan.

Foreign firms and overseas units of Chinese companies have been particularly active in tapping into China’s debt markets. They have raised record amounts through yuan-denominated bonds, commonly known as panda bonds when issued on the mainland and dim sum bonds when issued in Hong Kong. For instance, the National Bank of Canada recently raised 1 billion yuan through a three-year panda bond at a coupon rate of 3.2%, significantly lower than the 4.5% rate it would have faced in its home market.

Factors Driving the Yuan’s Growth

Several factors have contributed to the yuan’s increased usage in trade finance:

1. Low Interest Rates: Chinese banks’ rock-bottom interest rates have made borrowing in yuan particularly attractive, especially as funding costs have risen in other markets.

2. Policy Support: The People’s Bank of China (PBOC) has been actively promoting the use of the yuan as a funding currency, encouraging banks to lend to offshore firms and allowing broader use of the currency outside China.

3. Economic Recovery: Despite challenges, China’s economic recovery post-pandemic has positioned it as a relative safe haven for companies seeking stability and growth opportunities.

The Internationalization Question

While the yuan’s rise in trade finance rankings is undoubtedly significant, questions remain about the depth and breadth of its internationalization. Analysts point out several caveats:

1. Limited Circulation: Much of the borrowing in yuan appears to be for use within China, Hong Kong, or in bilateral dealings with specific countries.

2. Geographical Constraints: The yuan’s use in cross-border transactions is still heavily concentrated between mainland China and Hong Kong, with more than half of such transactions occurring within this corridor.

3. Geopolitical Factors: The yuan’s use in trade settlement is largely limited to developing countries friendly to China, such as those participating in the Belt and Road Initiative.

Mark Williams, chief Asia economist at Capital Economics, notes that countries aligned with the United States show little inclination to switch to using the yuan, suggesting that global use of the Chinese currency in trade may hit a “low ceiling.”

Trade Currency Status and Economic Influence

The yuan’s newfound status as the second most used trade currency is undoubtedly a milestone for China’s financial ambitions. It aligns with Beijing’s long-term goal of internationalizing the yuan and reducing reliance on the US dollar in global trade. This shift also reflects China’s growing economic clout and its increasing influence in shaping global trade patterns.

However, it’s important to note that the yuan’s 5.8% share in trade finance still pales in comparison to the US dollar’s dominant 84.2% share. The dollar’s entrenched position in international trade and finance, backed by the depth and liquidity of US financial markets, remains unchallenged for now.

Furthermore, while the yuan’s use in trade finance has grown, its broader international adoption faces challenges. The currency’s limited convertibility, China’s capital controls, and geopolitical tensions all pose obstacles to its wider acceptance as a global reserve currency.

The rise of the yuan as a trade currency represents a significant shift in the global financial landscape, reflecting China’s growing economic influence and its strategic push for greater financial autonomy. However, the path to true internationalization remains long and complex. While companies are increasingly turning to yuan-denominated borrowing for its cost advantages, the currency’s global role remains constrained by both policy and geopolitical factors.

As the global economic order continues to evolve, the yuan’s journey as a trade currency will be closely watched. Its ability to expand beyond its current niche and challenge the dollar’s dominance will depend not only on China’s economic performance and policy choices but also on the willingness of the broader international community to embrace it as a viable alternative in global trade and finance.

The coming years will likely see continued efforts by China to promote the yuan’s international use, potentially through further opening of its financial markets and fostering of international trade relationships. However, the true test of the yuan’s global status will be its ability to function as a freely tradable currency that is widely accepted and trusted beyond China’s immediate sphere of influence.