As per a report by South China Morning Post, the United States might use the final option against China, that is, blocking the use of the dollar for international payments, to destroy Chinese economy. As Chinese legislatures passed the executive’s plan to impose National Security Law on Hong Kong, United States might respond with tough economic sanctions including blocking the use of its financial system for payment by Chinese companies.
The United States financial infrastructure, Swift international payments messaging system, and the Clearing House Interbank Payments System (Chips), is used by companies around the world, including China, for international transactions.
This is not the first time the United States could use the dominant position of the US dollar in international markets to bring down a rival country on its knees. Previously the United States blocked Iran, Venezuela, and Russia from using the dollar payments system as part of the economic sanctions.
America has used financial sanctions as a foreign policy tool, especially since Trump came to power in November 2016. Iran, Venezuela, and Russian companies are already out of the International trading system due to ban on using American financial infrastructure. Few Chinese like Zhuhai Zhenhua, a state-owned oil company, were punished for breaking US sanctions against Iran, while Bank of Kunlun is already facing American sanctions.
If sanctions are imposed on Chinese companies, it would hurt China and the global financial system, but the United States too. “It’s clearly a nuclear option for the US,” said a Chinese official who has been briefed on internal discussions about Beijing’s response to the possible US reaction to the national security law in Hong Kong. “It would hurt China, but it would probably hurt the US more.”
Dollar is international reserves currency and central banks across the world, including the Chinese central bank, maintain foreign exchange reserves primarily in the US dollar. Around 60 to 70 percent of global foreign exchange reserves are maintained in dollars. Also, more than half of international trade is carried out in the US dollar.
Global Currency Reserves
More than 90 percent of foreign exchange trading involves the US dollar and 40 percent of global debt is issued in this currency.
Given the dominance of the US dollar, the ban would cripple the Chinese economy and hurt the foreign businesses of China companies. However, as in the case of Iran or Venezuela, the Chinese economy would not collapse completely.
“The US can bully Iran and Venezuela that do not have political and financial power. But the size of China and its currency are too big, so the US does not dare to take such extreme measures,” said Francis Lui Ting-ming, professor at Hong Kong University of Science.
China is already looking for alternatives and promoting Yuan for global and bilateral trade. The Chinese government has signed bilateral swap agreements with central banks around the world.
The Communist government launched the first official digital currency of the world, which it sees as an alternative to the US dollar, amid the Coronavirus pandemic.
The digital Yuan has been put on trial in three major cities of China- Shenzhen, Suzhou and Chengdu- and Xiong’an New Area to measure the efficiency of newly launched service. These three cities have a combined population of more than 4 crores and therefore it gives a broad base for the trial of the digital currency.
“A sovereign digital currency provides a functional alternative to the dollar settlement system and blunts the impact of any sanctions or threats of exclusion both at a country and company level. It may also facilitate integration into globally traded currency markets with a reduced risk of politically inspired disruption,” said China daily.
China has taken a big leap forward in order to end the hegemony of the American dollar. Given the dollar’s long tail, it would not be easy for China to pull out anything like this, but at least the dragon is not holding the efforts. And the Chinese government and its central government must be applauded for this.
However, even if the bet on digital currency takes off and promotion of Yuan as global currency yields some real results in the next few years, in the short run Chinese economy would be crippled if Trump places a ban at this time.