Associate Fellow, Global Economy and Finance

If the renminbi becomes a serious rival to the dollar, it will be due less to the effectiveness of Beijing’s statecraft than to a failure of Washington’s.

A couple walk past wallets with images of Chinese yuan banknotes and US dollar banknotes displayed at a store in Beijing, China, on 7 November 2014. Photo: Tomohiro Ohsumi/Bloomberg via Getty Images.Wallets with images of Chinese yuan banknotes and US dollar banknotes displayed at a store in Beijing, China. Photo via Getty Images.

Summary

  • China seeks to establish the renminbi as an international currency to rival – or even, in time, overtake – the US dollar. With its near-ubiquity in financial markets, the dollar has long enjoyed a unique status as the dominant global reserve currency, providing the US economy with many benefits as a result. China, the rising power, is making every effort to erode this dominance using a combination of policy innovation, cautious financial liberalization and diplomacy – ‘currency statecraft’, in other words. Washington, the incumbent, must decide what, if anything, it is prepared to do to counter the renminbi’s rise. In effect, two currency statecrafts have come into conflict.
  • China is intent on establishing itself as one of the world’s leading powers. Internationalization of the renminbi is an integral part of that ambition. China’s pursuit of renminbi internationalization has followed two interrelated tracks to date: one focusing on the use of the renminbi in foreign trade; the other focusing on the currency’s use as a store of value in international finance.
  • Washington has shown little interest thus far in mounting an organized defence of the dollar’s privileged status. US currency statecraft has been largely passive, leaving the initiative to the Chinese. The main reason seems to be a complacency born of decades of the US taking the dominance of its currency for granted.
  • Judging by the effectiveness of its policies on the supply side of the market, China has accomplished quite an impressive amount already in its efforts to promote renminbi internationalization. The authorities have managed to widen considerably the appeal and availability of the renminbi for both trade and financial purposes.
  • However, that is not the best way to measure success when statecrafts collide. A better indicator is the extent to which a currency is actually used. The renminbi still lags far behind the dollar in every category of international use. China has played a weak hand skilfully, but it is handicapped by significant deficiencies in terms of material capabilities and market penetration.
  • Over the long haul, the renminbi may become a serious rival to the dollar. Ironically, if that outcome is achieved, it will be due less to the effectiveness of Beijing’s statecraft than to a failure of Washington’s. With the recent election of Donald Trump to the US presidency, the risk of such failure is increased. If the US adopts ill-advised economic, financial and trade policies (including protectionism, for example), this could prompt a prolonged, slow-motion drift away from the dollar by investors and central banks.