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Chinese currency’s clout on the rise

January 17, 2011 |  6:34 am

Could Mao take a bite out of the greenback?

That's what economists will be asking as the Chinese yuan builds momentum toward becoming internationalized and a potential rival to the U.S. dollar.

Chinese President Hu Jintao may have heightened those expectations with comments made in a written interview with the Washington Post and Wall Street Journal published Sunday.

"The current international currency system is the product of the past," Hu said before describing the dollar's role as the world's chief currency in terms of trade and finance.

Hu's comments underscore concern in Beijing that as long as the dollar maintains its primacy, China will  be beholden to a U.S. monetary policy that benefits the U.S. first.
Photo: A U.S. $100 banknote is placed next to 100 yuan banknotes. Credit: Reuters.
Near the forefront of those fears is the U.S. Federal Reserve's second round of stimulus -– the $600-billion "QE2" -– which some believe will trickle to China and other emerging markets and increase inflationary pressure.

Another reason for the uneasiness is China's desire to spread its investment risk. About two-thirds of its $2.8 trillion in foreign reserves is estimated to be in dollars, leaving China vulnerable to a weakened greenback.

Critics argue China would have less to complain about if it lifted its strict controls on its currency. The yuan's exchange rate is said to be deeply undervalued to protect the competitiveness of the nation's exports. To do that, China does not allow the yuan to be converted internationally.

Expectations are that will change in the next 10 to 20 years as China will need a currency befitting a country with globally competitive banks and corporations. It may also be easier, and possibly cheaper, one day to pay for all its imports with its own currency instead of relying on America's. The country already allows some international transactions to be settled in yuan, also known as the renmenbi.

Optimism that the tender emblazoned with the image of Mao Tse-tung will become fully convertible sooner rather than later is based on the recent success of offshore yuan trading. Last July, the yuan made its debut on foreign exchange markets in Hong Kong. Since then, daily trading has surged to about $600 million a day, Bloomberg News reported.

The popularity of the offshore market in Hong Kong, a separate administrative region, has given rise to so-called dim sum bonds, which are denominated in yuan. The World Bank earlier this month sold 500 million yuan ($76 million). Last year, McDonald's Corp. issued 200 million yuan ($30 million) in bonds, and heavy machinery maker Caterpillar Inc. sold 1 billion yuan ($152 million), according to Thomson Reuters.

Though minuscule in comparison with $4 trillion traded globally in currency each day, analysts say interest has grown especially fast and reflects soaring demand to invest in the world's second-largest economy.

The offshore trading has little sway over the exchange rate, but experts say it lays the groundwork for investors and institutions to eventually embrace the yuan as a major currency for trade and investment.

-- David Pierson

Photo: A U.S. $100 bill is placed next to 100 yuan banknotes. Credit: Reuters