China about to become less dependent on the dollar

TAKESHI KAWANAMI, Nikkei staff writer

A U.S. $100 banknote is placed on top of 100 yuan banknotes. © Reuters

WASHINGTON -- The International Monetary Fund's proposed inclusion of China's yuan in its foreign exchange basket would put the Chinese currency on a par with other international currencies.

     Beijing has been working hard to internationalize its currency in a bid to reduce the country's dependence on the U.S. dollar. The yuan's inclusion in the basket would alter the race for monetary hegemony among the world's major economies.

     In a report released on Friday, the IMF said the yuan has met the criteria for joining the Special Drawing Rights basket, which consists of the U.S. dollar, Japanese yen, British pound and euro. The IMF proposed the inclusion of the Chinese currency to about 190 member countries. It is set to finalize its decision at an executive board meeting on Nov. 30.

     A number of countries, including the U.S., are likely to approve the recommendation.

     Special Drawing Rights is the term used to describe the IMF's reserve currency assets, which the organization distributes to member countries to head off currency crises. If a member nation finds itself in such a crisis, it can sell part of its rights to other IMF members in exchange for those reserve currencies.

     If the yuan is indeed added to the basket, member nations would likely increase their yuan reserves. Analysts estimate that 10% of foreign currency reserves, or an equivalent of about $1 trillion, would be held in the Chinese currency.

     One reason China is rushing to internationalize the yuan is so it can wean itself off the dollar, an IMF official said. China currently holds approximately $3.5 trillion in foreign currency reserves, mostly U.S. dollars.

     The country faced huge losses as the value of the dollar plummeted in the wake of the 2008 global financial crisis. This prompted China to hedge against any further negative impact from the U.S. economy and to increase its efforts to internationalize the yuan.

     There is also a matter of saving face. China will play host to leaders of the Group of 20 advanced and emerging nations next year, and President Xi Jinping and his administration want the yuan to be a Special Drawing Rights currency before then.

     China has intended to turn the yuan -- now effectively pegged to the dollar -- into a widely traded and freely usable currency by 2020. To switch to a floating exchange system, Beijing will need to further liberalize capital transactions going forward.

A liberalized financial market would help China attract investments from overseas, but the country would also face higher risks of capital flight in economic downturns.

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