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Can the yuan dethrone the US dollar as the world’s reserve currency?
Invezz.com – The US dollar index () continued its downward trend this week after Federal Reserve minutes signaled a recession later this year. And with inflation plummeting, there’s a chance the Fed will start to pivot soon. The DXY Index was trading at $100.49, 15% below the high point in 2022.
The Chinese yuan, on the other hand, has been in a strong uptrend. According to TradingView, the pair was trading at 6.831 on Friday, down 6.70% from its 2022 high. This performance came as the Chinese economy restarts after last year’s Covid-zero strategy.
So, as the US dollar and the Chinese yuan diverge, there are some concerns about whether the US dollar will maintain its reserve currency status.
DXY Index against USD/CNY
Global discomfort over the status of the US dollar
The reality is that there is global unease about the role of the US dollar as the world’s reserve currency. These concerns are occurring between countries friendly to the United States and enemies like Russia and China. Among European allies, there has always been concern as to why the euro is not as popular as the dollar.
The situation, I think, has worsened during the Covid-19 pandemic and the Russian invasion of Ukraine. In recent months, the Federal Reserve has raised interest rates by more than 400 basis points in its attempt to combat inflation.
The consequence of this is that most countries that hold dollar bonds have seen the cost of holding them increase. as i wrote here, Many emerging and frontier markets are going through their worst liquidity crunch on record as dollar shortages escalate. Countries like Ghana, Kenya, Pakistan and Sri Lanka are on the brink of collapse.
Meanwhile, the US government’s decision to sanction Russia’s central bank and block its foreign reserves shocked many countries. The concern is that the US now has the power to sanction any central bank it sees fit.
Is the Chinese yuan the solution?
Concerns about the dominance of the US dollar explain why central banks bought a record amount of in 2022. Most of these purchases were made in countries that are critical of the US such as Turkey, China, India and those in the Middle East. .
Now, there is a lingering debate as to whether the Chinese yuan can dethrone the US dollar. As we wrote here, one of the biggest forex news of the year was that Russia has turned to the Chinese yuan recently. And as China’s influence in frontier and developing markets grows, we could start to see increased demand for the yuan. As seen in this report, many African countries have adopted the yuan.
To dethrone the US dollar, countries must trust Beijing and its actions. For now, most countries, including allies, have a lot of mistrust of Beijing. For example, many Chinese-funded countries lament that the country’s practices are predatory. As a result, protests against Chinese cinemas have increased in many developing countries.
More importantly, there are signs that China’s economic growth has peaked. For decades, most of China’s economic growth was driven by the real estate sector, an industry that is on life support. Also, the export market that fueled the economy seems to be slowing down as countries look for alternatives.
At the same time, the judicial and political systems are not compatible with those of most countries. For people to trust a currency, these are fundamental questions. Therefore, the US dollar will maintain its reserve currency status due to the democratic process in the US, the strong judicial system and the independence of the Federal Reserve.
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