China prepares for the rise of the yuan

For the Chinese, that's not necessarily a good thing at the moment. China holds a stockpile of about US$2 trillion of foreign exchange reserves, about half in U.S. Treasury bonds and other U.S.-government-backed debt. Beijing is worried that the dollar will weaken and erode the value of those investments. Yet any sudden or large move to shift those funds could destabilize the dollar and hurt Chinese interests.

At the same time, the yuan is widely thought to be undervalued. American manufacturers and politicians have long complained that China manipulates its currency to boost exports. By keeping the yuan's value artificially low, critics say, Chinese manufacturers can sell their goods more cheaply in overseas markets. If the exchange rate — currently pegged at 6.8 yuan to US$1 — was not tightly set by Beijing, even Chinese analysts figure the ratio could drop to 5 yuan to the dollar.

Given China's heavy reliance on trade and related investments for its economic growth, Beijing can't afford to let the yuan appreciate too quickly. To reduce those risks, it needs time to continue to grow its economy and transfer more of its economic output to services and the domestic sector.

A shift from the dollar to the yuan as the global currency would have significant practical and symbolic consequences. The dominance of the dollar in trade, financing tools, commodity pricing and international payments has given the U.S. a big advantage in driving commerce and funding the running of the country, although that's also allowed Americans to spend more than it produces and saves.

Psychologically, the unseating of the dollar would be akin to the America losing its stature as the world's supreme economic power.

Yi Xianrong, a researcher at the Chinese Academy of Social Sciences, cautions against getting too excited about the Chinese government's recent moves, including the Cabinet's announcement last week that Shanghai would be built into an international finance hub. He says there's a long way to go before the yuan can become an international currency.

At the moment, the yuan, which has a picture of Mao on every note, is traded in the open market in only a handful of small countries, such as Romania. “It's not so meaningful to talk about this right now when the renminbi is not yet convertible,” Yi said.

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