China must be cautious about petroyuan
Since the launch of yuan-denominated crude oil futures in March, the contract’s average daily trading volume has steadily increased and now ranks No.3 in the world. Its overall price trend has synchronized with the global level, meaning that the pricing function of the contract is taking shape.
The distribution of global crude oil shipments will determine the potential scope of the petroyuan, and China’s position as the world’s second-largest economy and largest crude oil importer provides essential support to the establishment of this system.
Saudi Arabia and Russia are the two largest global crude oil exporters, and they are also major suppliers to China. Compared with other oil exporters, these two countries have a balanced trade volume with China and higher foreign exchange reserves, so both trade and finance can be the main routes for the recycling of yuan to China.
Step-by-step, Russia has begun to accept the yuan as the settlement currency for oil trade with China. Economic and trade cooperation between Saudi Arabia and China is also continuously strengthening.
Members of OPEC such as the United Arab Emirates (UAE), Kuwait, Nigeria and Qatar are potential regions for further expansion of the petroyuan. However, considering the limited dependence of these countries on Chinese crude oil imports, China must take other multilateral or bilateral economic and cooperation measures to make the yuan more acceptable in oil trades.
We have drawn up four scenarios for the petroyuan, each involving two possibilities: either the yuan is one of three currencies used by various parties in oil deals (along with the dollar and the euro) or it is one of only two currencies (the dollar and the yuan).
First: Assume that the petroyuan initially involves oil trade with Russia. If we presume a situation where three currencies are used in the oil market (dollar, euro or yuan) or two currencies (dollar or yuan), the annual scale of yuan global payments will be $24.56 billion and $36.84 billion, respectively.
Second: Assume that Saudi Arabia, the world’s largest oil exporter, also accepts the yuan. The annual scale of yuan global payments will be expanded to $45.39 billion and $68.09 billion under the first and second possibilities.
Third: Assume that all OPEC members accept the yuan. In that case, global yuan payments will reach $131.44 billion and $197.1 billion, respectively. Additionally, more overseas companies will likely be willing to use the yuan in trade and countries will gradually increase their willingness to hold yuandenominated reserves.
Fourth: Assume that all oil exporters except the US accept the yuan. Then, the annual scale of yuan-denominated global payments would increase to $223.65 billion and $335.47 billion, respectively.
The petroyuan system can become a win-win reciprocal cycle involving oil-exporting countries, China and countries alongside the Belt and Road (B&R) initiative.
China can also encourage its petroyuan surplus to return to the domestic financial market as well as offshore yuan market and be used to provide funds for Chinese-funded enterprises and enterprises alongside the B&R initiative.
The capital export of these enterprises to regions alongside the B&R initiative will accelerate international capacity cooperation and economic structure optimization in the region and fully
A feasible path for the expansion of the petroyuan system is to gain more pricing power for EuroAsian crude oil through a multilateral or bilateral cooperation mechanism such as the B&R initiative.
activate the development potential of the surrounding emerging markets. There are some who believe that establishing a regional or global oil futures trading center is an important prerequisite for the petroyuan system. To establish such a center, we must gain more recognition as well as the participation of major stakeholders in the oil market. The monopoly status of the US dollar in the global commodity and financial system will make the process a little bit longer. A feasible path for the expansion of the petroyuan system is to gain more pricing power for Euro-Asian crude oil through a multilateral or bilateral cooperation mechanism such as the B&R initiative. This means China must steadily promote exchange rate reform and achieve yuan payments for crude oil imports, in line with the expansion of yuan-denominated crude oil futures. Indeed, the international currency system means that the establishment of the petroyuan system will not happen overnight. But the petrodollar wasn’t created overnight, and the petroyuan won’t be established that quickly either. Taking precautions and giving full play to China’s advantages is the road that yuan internationalization must travel. It is true that a complete petroyuan system requires support mechanisms, supporting transactions and pricing. But that’s just the start. Two major problems need to be resolved. First, the petroyuan needs to open up a complete channel for currency outflows and backflows, in particular, to address the liquidity of trade and financial backflows. Second, the most suitable methods need to be found to bring the petroyuan into being. Commodity settlement and pricing should be also promoted gradually.