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Bank of China Will Allow U.S. Yuan Trading in Game-Changing Step Toward Creating Global Currency

State-owned Bank of China Ltd. has announced that it will allow U.S. customers to open yuan accounts to buy and sell China's currency.

According Money Morning Chief Investment Strategist Keith Fitz-Gerald this is yet another deliberate move by China, which is attempting to promote the role of its currency in global trade.

"Prior to July 2010 such trading had been confined within China," says Fitz-Gerald. "Then, the government allowed limited yuan trading in Hong Kong, which has surpassed all expectations by blossoming literally from zero to more than $400 million a day. Against that baseline, here they come and here the Yuan comes."

While U.S. customers can already trade yuan through some Western banks, this move signifies the progression of China's goal to internationalize yuan trading.

BOC will limit individuals to $4,000 in trades per day and $20,000 per year, to prevent speculation in the currency. But there is currently no limit on firms and businesses, as long as they are involved in international trading.

"We're preparing for the day when renminbi becomes fully convertible," Li Xiaojing, general manager of BOC's New York branch, told The Wall Street Journal. The bank wants to be "the renminbi clearing center in America."

The move is also geared to reduce reliance on the U.S. dollar and push the yuan into a greater role as a global currency. Many are concerned that the U.S. dollar's value will decline as the U.S. Federal Reserve maintains its loose monetary policy. China, which holds nearly $3 trillion in foreign exchange reserves largely in dollar-denominated assets, is particularly concerned.

"China sees the global financial system as too U.S.-centric and dollar dependent," Robert Minikin, senior currency strategist at Standard Chartered Bank in Hong Kong, told The New York Times. "That created issues during the financial crisis."

Zhou Xiaochuan, Governor of the People's Bank of China (PBOC), in 2009 released an essay entitled "Reform of the International Monetary System" on the central bank's Web site calling for the dollar to be dismissed as the world's main currency reserve.
China also has signed billions of dollars in currency swap agreements to promote the yuan's use in international trade. And most recently, Chinese regulators last month increased by 7,000 the number of exporters that are allowed to use the yuan to settle global trade transactions.

Analysts predict that within a few years about 20% to 30% of China's $2.3 trillion of imports could be settled in yuan instead of U.S. dollars, up from the less than 1% today.

Money Morning's Keith Fitz-Gerald says this shift to the yuan is something for which the United States is not prepared.

"Arrogant U.S. officials will be stunned in a few months by the giant sucking sound this is going to create in the dollar," said Fitz-Gerald.

Fitz-Gerald calls China's recent move a "monster game changer," and said the yuan is on its way to meeting its global currency goal.

"Watch the yuan become a store of value on par with the U.S. dollar, the Japanese yen and the euro within five years, and still remain nearly completely outside the traditional western currency trading pairs and the sovereign debt risk that makes them all but worthless – quite literally and figuratively." said Fitz-Gerald.

Fitz-Gerald said China's other three big China state-owned banks – China Construction Bank Corp., Agricultural Bank of China Ltd. and Industrial and Commercial Bank of China – will shortly follow BOC's new policy, further broadening the yuan's liquidity. They will compete with each other for yuan clearing services, shutting out unprepared U.S. financial institutions.

Yuan trading by offshore entities will skyrocket as institutions jump on the trade. While most U.S. corporations settle in U.S. dollars, the yuan's appeal is growing. McDonald's Corp. (NYSE: MCD) and Caterpillar Inc. (NYSE: CAT) recently became the first U.S. non-financial companies to sell yuan-based bonds in Hong Kong.

Fitz-Gerald also said U.S. consumers should brace for higher inflation as the yuan strengthens and raises the price of Chinese goods.

"The loudmouths in Washington who believe that China's yuan is undervalued are now going to get a terribly painful lesson in how the real world works when a country with $2.8 trillion in reserves starts calling its own shots," said Fitz-Gerald.

U.S. Treasury Secretary Timothy F. Geithner has repeatedly asked China to revalue its currency, claiming it is too cheap against the U.S. dollar and gives Chinese exporters an unfair advantage. China's trade surplus with the United States increased by 26% in 2010 to $181 billion.

Geithner said in a speech yesterday that while China's tight exchange rate control has kept the currency "substantially undervalued," both countries were starting to see benefits of the yuan's recent appreciation.

"We're probably….at the end of the second inning…but it is changing and it has to happen," Geithner said.

The dollar has dropped to 6.6 yuan from 6.83 at the start of the year. The yuan currency is strengthening at a 10% rate when accounting for Chinese inflation.

"So if that appreciation was sustained over time, it would make a very substantial difference in correcting what is a major distortion for the Chinese economy and the global economy," Geithner said.

China in June by agreed to increase yuan flexibility by allowing the currency to move up to 0.5% each day.

"Conditions are in place for sustained yuan appreciation against the dollar," said Standard Chartered's Minikin, who predicts the yuan will move 6% this year to 6.20 per dollar.

Fitz-Gerald said this development solidifies for investors why China is such an important part of the New Year.

"If you haven't already bought yuan as part of your Chinese investing program, now's the time to do so," said Fitz-Gerald. "Having the yuan on the world's stage will unleash a wave of purchasing power the likes of which the world has never seen and it is a game changer in the truest sense of the world."

[Editor's Note: China's campaign to transform the yuan into the world's new reserve currency is so crucial a development for investors that Money Morning will be following the story with a four-part series beginning next Tuesday. Be sure to check in for more insight from Money Morning Chief Investment Strategist Keith Fitz-Gerald.]

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  1. PAT | January 13, 2011


  2. Petros Dratsidis | January 13, 2011

    The yuan will be the world 's reserve currency only when China rules the waves…only when China has a navy of the same firepower and reach as the U.S. navy. Economists don't understand how history works because they only look at the financial situation. I only hope that the Americans of today do understand how history works, just as their grandfathers did back in the 1st half of the 20th century.

  3. DES | January 13, 2011

    America, be careful what you wish for!!!!!

  4. Lance Clark | January 13, 2011

    Petros…are you referring to early in the the 20th Century when Britain ruled the waves and the U.S. hadn't yet built its superior naval fleet. Good thing for America the Brits cared more about their navy than they did about the Pound Sterling which if you recall failed dramatically in the same time frame.

  5. Jeff Pluim | January 13, 2011

    The comment of Petros Dratsidis is typical of American narrow minded bombast. The Americans are going further into debt at an historical rate and when their dollar drops like a stone against other currencies, America won't even be able to pay its soldiers and sailors. It will be just like it was in Russia. I have a Russian friend who works as a lawyer for the government, and many months her paycheck was severly late. Having ships on the sea is not going to stop the inevitable collapse of the USD.

  6. DD | January 13, 2011

    Lance – The way I see it, the US are doing pretty much the same thing as the Brits. The US cares too much about its military, Israel and oil + pipelines to care about her currency and citizens. Now this will be a good thing for China. :) I believe the US us much more desperate than she is letting on.

    No one country should have superiority over another and no one country is better than another.

  7. mike | January 13, 2011


  8. AC | January 13, 2011

    Dd, I beg to differ. Corrupt, non law abiding countries are not as good as law abiding countries. Would you invest $ in Haiti right now?
    And the US had better watch it's navy. There are now missiles that can destroy aircraft carriers. It wouldn't take too many attacks and the navy would be gone. And we're signing treaties saying we won't protect ourselves against missiles??????

  9. roy | January 13, 2011

    I agree with AC, just a week ago, China demonstrate the 5th generation fighter/stealth, PLN now has cruise missile that can sink aircraft carrier before the aircraft carrier enter the Pacific, by denying US navy to enter Pacific from Hawaii, Chinese navy does not have to win the war to be a winner, denying US intervention and making it costlier for US navy to intervene is already a win scenario.

  10. Andrew du Boulay | January 13, 2011

    Edward Wong (2008) wrote: ‘Not long ago, Chinese officials sat across conference tables from American officials and got an earful. The Americans scolded the Chinese on mismanaging their economy, from state subsidies to foreign investment regulations to the valuation of their currency. Your economic system, the Americans strongly implied, should look a lot more like ours. But recently, the fingers have been wagging in the other direction. Senior Chinese officials are publicly and loudly rebuking the Americans on their handling of the economy and defending their own more assertive style of regulation. Chinese officials seem to be galled by the apparent hypocrisy of Americans telling them what to do while the American economy is at best stagnant. China, on the other hand, has maintained its feverish growth’*.

    Logic would suggest, that following the economic policies of the country that had largely caused the problems of the Great Depression and then the Global Financial Crisis might not be the most prudent step. With the introduction of the euro (in 1999 and the currency in 2002) and China’s rapid growing economic fortunes over the past three decades, a tri-polar currency world involving the US dollar, euro, and yuan has now come into being.

    Because the US can no longer claim to be the world’s strongest economy, a change in the structure of the international monetary system is now inevitable. We need only examine history or the work of Nobel Prize-winning economist Robert Mundell to validate the proposition. He says:
    "…there is a constant phase relationship in the global financial structure due to the configuration of dynamics in the world economy and the special role played by the currency of the superpower… When one country has a super-economy, its currency often fulfils many of the functions of an international currency and plays a central role in the international monetary system"**.

    Mundell said this has been as true for the Babylonian shekel, the Persian daric, the Greek tetradrachma, the Macedonian stater, the Roman denarius, the Islamic dinar, the Italian ducat, the Spanish doubloon and Dutch guilder, as it has for the more familiar pound sterling of the eighteenth and nineteenth century and the US dollar of the twentieth century. Mundell explains whichever super power we examine throughout history, ‘it typically has a veto over the international monetary system’. Because it benefits from the international use of its currency, the superpower’s interest is usually expressed by: ‘vetoing any kind of global collaboration that would replace its own currency with [that of] an independent international currency’.

    The size and stability of the Chinese economy has shown to be strong enough to weather the turmoil of the GFC and a shrinking US economy. The term shrinking is not to say the US economy will grow smaller as such, but that other economies will grow larger relative to the size of it, and thus diminish the influence of the US economy on global affairs. Just as Britain’s economic supremacy faded rapidly at the beginning of the twentieth century, so too will the US lose its supremacy at the start of the twenty-first century. This will be the catalyst for a restructuring of the international monetary landscape. It is through this transformation that the ideal time arises to address many of the inefficiencies of the international monetary system.
    * Wong, E (2008) Booming, China Faults US Policy on the Economy, New York Times, 17th June 2008.

  11. Hugo O'Neill | January 16, 2011

    Never was the World economy so much interdependent and so much globalised. Never had so many millions of people access to immediate information practically on par with politicians and other strategic decision makers. Risking repeating the terrible mistake of saying "This time is different" i believe that this time the set up of a truly independent reserve currency like the IMF’s SDRs will succeed.

  12. Jim Reese | January 16, 2011

    As Milton Friedman said, "Some things which are politically impossible, eventually become politically inevitable."

    Three changes to the U. S. constitution would alter the world. Repeal the amendment which permits the income tax and, thereby, eliminate the IRS. Substitute the Fair Tax…a tax on expenses rather than productivity. U.S. goods immediately would be more competitive in international markets. Couple this with the passage of the balanced budget amendment and we will have restored our constitutional republic. No state-controlled economy (China) could compete with us.

    When the U.S. voters demand these changes, the congress will have to comply. First, the voters must be aware that these changes can and should occur.

  13. Uncle B | January 17, 2011

    The U.S. is quagmired in an unsustainable status quo! The Feds cannot print money for the whole world, China and India included without raising objections, The objections have been raised! China for one, is rich enough to not tolerate the bailing out of U.S. debt by money printing machines! How stupid do Americans think the rest of the world is?

  14. Richard K. | January 17, 2011

    I totally agree with you Jim Reese !

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