Dollar hegemony takes another knock

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by Alex Porter, Economy Editor

The Bank of India (BoI) is the first Indian bank to offer trade settlements between the rupee and the Chinese yuan (RMB) from Hong Kong.  Hong Kong is the only offshore market for Chinese currency with $400 billion yuan being traded against other currencies in the past year.  The news is the latest in a string of efforts by China to have the RMB accepted as an international currency and follows a campaign of persuasion by the China Banking Regulatory Commission.

Currently Indian buyers make payments in US dollars and so often have to convert their rupees into US dollars to effect transactions.  This new facility being offered by the BoI lessens the need for Indian importers to keep the same volume of US dollar in reserve and use as an intermediary.

With world markets being flooded with dollars the rupee is considered by Chinese exporters as being more stable.  That aside, if Indian importers want to procure low-cost goods then Chinese exporters have some leverage to have settlement in rupees.

The US will not be overjoyed by this development as having the dollar as a reserve currency means the dollar’s value is supported by the need for foreign companies to have reserves to make international transactions.  This structural demand helps offset the glut of supply and so prevents the value of the dollar falling more than it has in recent years.

Real-time financial settlements are now supported with the Bank of India having a RMB account with Bank of China with transactions extending to buyers and sellers in all of China’s provinces.

Towards the end of last year Russia and China began trading directly in each other’s currencies.  Russia’s currency, the ruble, is fully convertable in international exchanges.  Although international investors believe that it would be in China’s best interests to float the RMB, Beijing is cautious.

One key strength of the US dollar is that there is no obvious candidate for replacing it as the world’s reserve currency.  Until recently the markets were convinced that the euro would become an obvious candidate to become a rival however soveriegn debt problems across in Greece, Spain, Portugal and Italy have undermined confidence in the euro’s future.

Many analysts believe that the Chinese would like to position the RMB as a successor reserve currency.  Holding a large amount of US debt, the Chinese have been frustrated to see the value of their dollar investments become depreciated through quantative easing by the Federal Reserve.