By Lt Gen P R Shankar (R)
De-dollarisation is the Chinese tune of the day. Elegies are being sung on the death of the dollar, choreographed with Chinese lyrics. The death of the dollar is supposed to be supplanted with the rise of the Yuan. The Xi Jinping orchestra is at work overtime by suggesting that the dollar has seen its heyday. The sounds emanating from this orchestra are loud as they can be. As per the new jarring lyrics, it is time for the Yuan to make its play and make hay in the sunshine. Once the Yuan becomes the reserve currency of the world, everything falls in place for Xi and the gang. All the economic worries of China will vanish. This is all part of the Sino Centric world order supposedly unfolding before us. It needs a deeper look.
Any currency of any country has the face of its most important citizen on it. The INR has Mahatma Gandhi, the USD has George Washington, the British Pound has the face of its Royalty etc. These personalities are representative of the values that are associated with that country. The Yuan has Mao Ze Dong’s face; inarguably, a man who exterminated millions of his country in cold blood on a mere whim. He is accredited to have created a famine in which millions died of starvation. Such a man will adorn the face of the reserve currency of this earth when the Yuan goes fully global. UGH!
Any currency is a promissory note which promises a value based on which a trade can be carried out for goods which could range from a brinjal to gold mine. That promise is based on trust. That trust is generated from how freely the currency can be used for trade or be held as a reserve or dealt with in financial transactions. Trust is generated by transparency through capital-account convertibility, liberalised financial-sectors, capital free flow and tradability. These issues need deep and highly liquid financial markets which are relatively open with minimal restrictions. Can a system which puts Mao’s face on the Yuan be trusted on these metrics? Even the Chinese themselves do not trust it fully. That is why many of them stash their money abroad. That too in the USA in dollars! Trust is based also on the system of governance. It is hard to trust the opaque Chinese government which has spawned a system where bankers and more disappear for corruption in a jiffy without reason. If these bankers were really corrupt, then there is no trust in the Chinese financial system. If the bankers were not corrupt and were made to vanish for political reasons, then also there is no trust. Most importantly, the opacity of autocratic China is so high that we do not know what is going on there. Their information firewall is so exclusive that China is really an isolated country. Can the currency of an isolated country in which trust deficit is high and transparency is low, ever become the reserve currency of the world? .
A currency acquires reserve status based on the strength of the economy and the military might of that country. The British empire expanded through its military conquest. It became so huge that the sun never set on it. When that expanse happened, all its colonies could trade only through the British system. Hence the Pound came into the pole position. That is also the time when the British pound side-lined and forcibly marginalised the German Mark, the French Franc, the Dutch Guilder and the Spanish Peseta. The British Pound collapsed when its colonies fell away , the UK was impoverished by two world wars and the sun started rising and setting within the confines of the British isles. The Pound gave way to the US Dollar at that time. The US Dollar was propped up by the might of its economy and the spread of its military which is omnipresent at every corner of the earth. More importantly, the military was prepared to fight and shed blood for the values it represented and defend its position. Both these areas have not diminished in value. On the other hand the US economy is as strong as it can be and the military is potent as ever. Even more important, the USA is able to generate the trust required through its enormous soft power. The level of trust is so high that the US dollar is smuggled in millions from Pakistan to Afghanistan even by the Taliban and its cohorts on a daily basis. It has also been able to generate trust in roadside vendors, shopkeepers and restaurateurs in China dominated Cambodia to deal in dollars only! You cannot buy a cup of coffee with a Yuan even in Pakistan. With a dollar you can. No economist can explain that…can he?
The military might also need examinations. The Chinese are aiming for the PLA to be the greatest military on earth. However its strength will always remain suspect. Most importantly, China is emerging as a reticent power unwilling to use its military. One must accept a fundamental issue that the military might propels the financial status of a nation. China by all military metrics is far from being capable of doing that. From a military point of view, China remains a fat man with short arms. It corresponds to the status of the Yuan also. The transition to a global reserve is far away on military metrics. In the event, can it ever even enforce the Yuan as the global reserve currency?
Practical sense informs us that the Yuan should be great as an alternate reserve currency since it is the legal tender of the second largest economy of the world. It is the currency of the world’s largest goods-trading nation. However the fact remains that it is not freely traded or fully convertible or used widely /easily for trade. That is also because the second largest economy is not destined to be the largest economy as per the German, Dutch, Japanese and many other international analysts. Most of them point to inflated GDP figures, a real estate sector in slow motion collapse, heavily underutilised and wasteful infrastructure, and most importantly a declining and aged population with poor health care. The mountain of debt of an opaque and autocratic government does not generate confidence to put your life savings into the Yuan. When people of a country can be relieved of their riches overnight like it happened to Jack Ma, then there is some reason to feel worried. The ‘WHAT IF’ factor creeps in. Can the Chinese Government be trusted to keep your life savings in the Yuan without being told one fine day that you have no more access to it? Just think as to why nations which trade with China are hesitant to deal in the Yuan.It points to the basic instability of the Chinese economic system generated by dodgy accounting and extreme opacity. That is why the Yuan is used in only 7% of the total of international transactions, mostly on bilateral terms. If the Yuan is made the reserve currency of the world just as the US dollar is today, 84-88 % transactions would need to be in Yuan. That means China has to open up its capital markets. If that happens rapid capital outflows will occur. In turn it would trigger a financial crisis and debt ridden China will simply collapse politically. Are the Chinese communists prepared to lose power? It also means that China will drag the entire global financial system down. Is one prepared for that?
From another view point, the BRI which is present in 140 countries, is the ideal world-wide platform for launching the Yuan to be the global reserve. In fact, the Yuan is being thrust upon all those countries where the BRI has established itself and are in a Chinese debt trap. However most of these countries, if given a chance will in all probability dump the Yuan, except in enforced bilateral trade. One just needs to ask people or governments in Sri Lanka or Angola if they want to trade in Yuan. The answer will tell its own story. Barring Russia and Brazil no other country wants to deal in Yuan terms. Russia is forced to do so due to the sanctions it is under. Brazil is indicating the shift due to the government being a left oriented one. Overall acceptance of the Yuan as the reserve currency will also depend if the rich and prosperous nations are prepared to do so. When the top ten economies of the world deem China to be a systematic threat or as an adversary, the chances of its currency being held as a reserve are bleak. There is also this great idea that a BRICS currency can be floated underpinned by the Yuan. Will India ever agree to that? India will simply say – NO WAY. The day any government in India does that, it will be out of power. After all, if the fifth largest economy (potentially the third largest) is not prepared to accept the Yuan , what do you think is the future of that currency?
There is another factor which needs consideration. The US dollar is the de facto currency of East Timor, Ecuador, El Salvador, the Federated States of Micronesia, the Marshall Islands, Palau, Panama, and Zimbabwe. Oh yes. Even Zimbabwe, the country which has deep trade and bilateral ties with China uses the USD as legal tender! Further, the relative transparency of the monetary policy in the US has led to nearly 22 foreign central banks to peg their currencies to it.The USD is the preferred currency of these countries. When do you think that the Yuan will acquire that status? In fact with the current trading levels, even the Euro has better chances of being accepted as an alternate reserve since it is the common currency of 20 nations despite disparate and varying fiscal policies, debt, and equity markets. However the economic status of these European countries inhibits the growth of the Euro beyond a point.
However let us look at it differently. Why is China in a hurry to de-dollarize? In my opinion, if it does not de-dollarise, it is open to sanctions just as Russia was. If the Chinese get sanctioned, and their dollars get frozen, all hell will break loose for Xi ji. In my opinion, the Chinese hurry to de dollarize is a hedge. It wants to reduce the misery it will face if it gets sanctioned. If it does force some nations to deal with it in Yuan terms it will have a face to save and Xi Jinping will look like a hero. At the bottom is the reality that China is vulnerable and is running scared from the Dollar. Samjhe?
The author is PVSM, AVSM, VSM, and a retired Director General of Artillery. He is currently a Professor in the Aerospace Department of IIT Madras.
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