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Yuan to Overtake the Dollar? Not So Fast

The greenback is, and will remain, the world’s reserve currency of choice for a long time to come, according to the Financial Times. As David Pilling argues, China’s attempts to internationalize its redback, the renminbi, to compete with the dollar won’t go far. Although Beijing is currently using Hong Kong and Taiwan to experiment with expanding the reach of its currency (with London and Singapore possibly to follow), it will be far more difficult to replicate these experiments on a global scale.

For starters, some of China’s recent successes are illusory. Many merchants, for instance, bought offshore renminbi solely to profit from China’s currency’s appreciation. But in China’s slowing economy, the renminbi actually depreciated this year. And rather than “invoicing” its trades in renminbi, which is the true measure of an international reserve currency, merchants merely “settled” their trades in renminbi, in an attempt to arbitrage the exchange rate vis-à-vis the mainland.

True internationalization of the renminbi would require liberalizing the domestic banking sector. This is anathema to the Chinese leadership, whose growth model makes this impossible:

Like Japan, China’s growth model has been built on cheap credit at home and an undervalued currency. Japan only dared to start dismantling capital controls in the early 1980s by which time it had more or less caught up with western living standards. The Communist party is even more dependent on its ability to allocate credit and to protect state-owned industry and job-creating exporters.

China wants the prestige and benefits of the dollar’s status as international reserve currency, but it is finding out that these benefits come with costs as well—costs that are higher in a heavily regulated, state-directed economy. For the foreseeable future, at least, the international currency will be green, not red.

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