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UPDATED: June 23, 2015 NO. 26 JUNE 25, 2015
Gaining Currency
With South Africa’s economic leadership severely challenged, the yuan can come to its aid
By Qiu Zhikun

A Bank of China office building in Beijing (CNSPHOTO)

South Africa was Africa's economic giant, creating the miracle of accounting for one third of the continent's GDP though its population was only 6 percent of the entire African population. However, exceptionally high unemployment, socio-economic inequalities, an ailing electricity generation capability and recent xenophobic attacks have challenged its position. In 2013, Nigeria became Africa's new biggest economy, with the "Rainbow Nation" on a downward spiral.

Nevertheless, following the first yuan settlement in Africa in 2010, the currency offers hope to South Africa. The challenge is to maximize every opportunity this initiative affords.

By 2010, China had become the world's second largest economy, the biggest manufacturing center and the largest creditor and the biggest market in the world, with its foreign exchange reserves bigger than any other country worldwide. The yuan is now the fifth largest trade settlement currency.

Since 2008, China has signed currency swap agreements with over 31 countries and regions with the volumes reaching 2.9 trillion yuan ($467 billion). In October 2014, the United Kingdom issued its first yuan sovereign bond for 3 billion yuan ($483 million) which became part of its foreign exchange reserve. This shows the yuan's significant influence.

South Africa was slow to react, falling behind Nigeria, Tanzania, the Seychelles, Mauritius and Kenya. In 2011, Nigeria became the first country to declare the yuan as part of its foreign exchange reserve. In 2012, Nigeria and Tanzania bought yuan bonds worth nearly $80 million issued by the China Development Bank in Hong Kong. For the first time, a central bank in Africa was involved in yuan bond investment and an African country collected the yuan as part of its foreign exchange reserve. Then Angola, Ghana, Kenya and finally South Africa followed. The tardiness could well translate in South Africa not leading the charge as a financial powerhouse.

According to China's Ministry of Commerce, China in 2010 became the world's biggest creditor for Sub-Saharan Africa replacing the World Bank. The total volume of debt for the past 10 years stands at $67.2 billion. China is now the most important trade and capital partner of Africa. Buoyed by China's large-scale production and foreign exchange reserves, the yuan is in a position to become an ideal financial tool for multilateral trade and investment in Africa.

The yuan will not only strengthen economic cooperation between China and South Africa but also lay the foundation for an integrated beneficial relationship. Establishing an offshore yuan center is one important component of this foundation. There are numerous options for a yuan hub in Africa. The benefits will be astronomical for the chosen country with China definitely supporting it in politics and financial, infrastructural and technological advancements. South Africa could be China's destination of choice.

South Africa should be aware that the yuan's globalization means more than trade and investment between China and Africa. Africa may achieve global industrial influence in the future for the currency. Till 2013, the mining projects in Africa with Chinese investment accounted for 34 percent of global mining projects and the output value accounted for 22 percent. When the African mining industry reaches its capacity, its output will have a significant impact on global production. If the payment for export of mining goods from Africa is settled in yuan, the global commodity trading pattern will undergo a metamorphosis. African countries will be able to regain the initiative stemming from their own resources and protect their core interests with the yuan.

Testing stage

In March 2014, the South African Reserve Bank for the first time invested 50 million yuan ($8 million) in yuan bonds, becoming the first African country to invest in the onshore yuan market. This April, China and South Africa signed a bilateral currency swap agreement worth 30 billion yuan ($4.8 billion). Recent years have witnessed the Bank of China, the Shanghai Stock Exchange and other major financial institutions conducting yuan promotional activities in South Africa.

In six years, the globalization of the yuan has made significant progress. According to the People's Bank of China, China's central bank, the yuan was the world's seventh largest reserve currency in 2014. The central banks of more than 40 countries have invested in it. The status of the yuan as a reserve currency will enjoy further enhancement during the next decade. Its proportion of total global foreign exchange reserves is expected to reach about 10 percent in 2025.

The establishment of the China (Shanghai) Pilot Free Trade Zone has opened up channels for the yuan in commodity trade. The Shanghai International Energy Trade Center and Shanghai International Gold Trading Center have been established in the free trade zone as the first international trading platforms of financial assets. These will be able to offer yuan transactions to global investors in the future.

Reducing risks

In 2009, China overtook Germany as South Africa's largest trading partner. By 2014, the total bilateral trade volume had reached an unprecedented $60.29 billion, with China's direct investment in South Africa reaching $4.7 billion. If settled in yuan, trade and investment between the two countries will be more convenient, efficient and cost-effective. It will not only simplify and facilitate existing business but also attract additional opportunities for cooperation. The exchange rate risk in using a third currency, such as the American dollar, in each transaction would be mitigated.

Since the European debt crisis and the QE policy adopted by their central banks to stimulate the economy, the competitiveness of the U.S. dollar and euro as a reserve currency has been significantly reduced. Currently, many countries are intensifying their efforts to reduce the share of the dollar and euro in their foreign exchange reserves and national debt issuance. The challenge lies in the natural choice of a successor currency. The yuan provides an ideal alternative, especially for South Africa.

In 2013, the U.S. Federal Reserve's indications that QE could be reined in caused extensive transfers of international capital. This impacted emerging-market countries, particularly South Africa, Brazil, India, Indonesia and Turkey. Currently, it is forecast that the dollar interest rate would be facing a rate hike cycle. Should this happen, dollar outflows from South Africa will accelerate, culminating in South Africa facing the double risk of exchange rate depreciation and liquidity constraints. Therefore South Africa must take preventive measures in the short term.

The yuan is more than a logical choice and alternative for South Africa to supplement liquidity and funding. In the wake of the Belt and Road Initiative outlined by Chinese President Xi Jinping to revive ancient trade routes between Asia, Europe and Africa and create greater connectivity and trade, China is bound to invest abroad and relocate some of its industries abroad. South Africa should seize this great opportunity and ready itself to amass yuan capital to supplement its domestic liquidity and funding gaps. 

The author is CEO of the Bank of China, Johannesburg

Copyedited by Sudeshna Sarker

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