China-Russia currency agreement further threatens U.S. dollar

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Russia's President Medvedev shakes hands with China's Premier Wen Jiabao during their meeting at the presidential residence in Gorki outside Moscow
Russia's President Medvedev shakes hands with China's Premier Wen Jiabao during their meeting at the presidential residence in Gorki outside Moscow

China and Russia have agreed to allow their currencies to trade against each other in spot inter-bank markets.

The motive is to promote the bilateral trade between China and Russia, facilitate the cross-border trade settlement of [the yuan], and meet the needs of economic entities to reduce the conversion cost, according to Chinese officials.

 

This latest move -- a continuation in a series of efforts by both countries to move away from  U.S. dollar usage in international trade -- further threatens the dollar's reserve currency status.

 

The dollar has this status because it is currently the currency of international trade. 

 

For example, when Malaysia and Germany exchange goods, the transaction is often denominated in dollars.  In particular, oil -- something that all modern economies need -- is denominated in U.S. dollars, so the currency is almost as indispensable as oil itself.   

 

The dollar reserve currency status allows the U.S. to run up high deficits and have its debt be denominated in the U.S. dollar, which in turn enables it to print unlimited dollars and inflate its way out of debt. America, understandably, wants to protect these privileges.

 

In fact, some allege that the U.S. wants to protect this status so badly that it invaded Iraq because the country began selling oil in euros instead of dollars. Now, the U.S. is allegedly threatening Iran because of the country's desire to use euros or Russian rubles in oil transactions.

 

Meanwhile, China and Russia are gradually revolting against the U.S. dollar. This latest move to shift bilateral trade away from it is significant in itself because China-Russian trade -- previously denominated in dollars -- is currently around $40 billion per year. For Russia, trade with China is larger than trade with the U.S.

 

Moreover, as this policy extends to Russian exports of oil and natural gas to China, it threatens the global petro-currency status of the U.S. dollar.

 

According to the International Energy Agency, China is already the largest consumer of energy,  although the U.S. is still the largest consumer of oil. However, China, now the largest automobile market in the world, is expected to rapidly increase oil consumption.

 

Russia is already the second biggest oil exporter and the biggest natural gas exporter in the world. 

 

In other words, the growing importance of Russia and China in the global energy picture -- and their phasing out of dollar usage for trading energy commodities -- would marginalize the status of the dollar.

 

Russian ambitions against the dollar for energy exports go back to 2006. That year, former President Vladimir Putin made plans to set up a ruble-denominated oil and natural gas stock exchange in Russia.

 

The ruble must become a more widespread means of international transactions. To this end, we need to open a stock exchange in Russia to trade in oil, gas, and other goods to be paid for with rubles…Our goods are traded on global markets. Why are they not traded in Russia, said Putin, according to RIA Novosti.

 

For China, it is promoting the use of yuan as a trade settlement currency in Asia. Recently, it allowed its currency to trade against the Malaysian ringgit. Just like the deal with Russia, the purpose of that agreement was to promote bilateral trade between China and Malaysia and facilitate using the yuan to settle cross-border trade.

 

Trade is the major reason for the demand of foreign currencies in the first place. So as countries like China and Russia phase out the usage of U.S. dollars for international trade -- including but not limited to oil trade -- its status as the world's reserve currency will continue to slide.

 

 

Email Hao Li at hao.li@ibtimes.com

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