China Economy

'Dark cloud' of trade war hovers over Chinese yuan's globalization

Key Points
  • The U.S.-China tariff war is adding to weakness in the yuan, as Beijing seeks to promote it as a global currency in line with the country's growing economic clout.
  • Internationalization of the renminbi could slow as the trade war drags on, analysts say.
  • However, they say, the story surrounding the yuan's future is complex and can't be summed up only in relation to China's trade tensions with the U.S.
Chinese 100-yuan notes at a bank in Nantong in China's eastern Jiangsu province.
AFP | Getty Images

The Chinese yuan's slide is creating challenging headwinds for Beijing's push to promote its currency globally — a key element in the broader liberalization of the world's second-largest economy.

China wants its currency, also known as the renminbi, to play a leading role in global trade and finance in line with its economic clout.

While Beijing has scored some significant milestones, the yuan has been declining, assailed by a weakening economy and a trade war with the United States.

One major achievement was in 2016 when it joined the ranks of the dollar, euro, yen and British pound as part of the International Monetary Fund's Special Drawing Right (SDR), an international reserve asset. But there have been bumps as well, most notably in 2015 when authorities suddenly devalued the currency after steadily nudging it higher for years, triggering a sell-off in global markets.

The renminbi, or literally "people's currency," is now being buffeted by a new challenge as China's economy is under pressure from U.S. President Donald Trump's tariff assault. Analysts say its push to become a global currency is likely to suffer a setback.

"Renminbi internationalization could be slowing down temporarily in the second half of this year," Ken Cheung, senior Asia foreign exchange strategist at Mizuho Bank in Hong Kong, told CNBC, citing the disruption caused by the trade war.

Trade tensions have exposed vulnerabilities in China's slowing economy that make foreign investors nervous, he said, citing the example of potential bond defaults.

China is trying to 'stem' the yuan's depreciation: Strategist

Importantly, the yuan's decline was already underway this year and the tariff tensions cannot be solely blamed. In a report released Tuesday, IHS Markit economists said the yuan was already depreciating against the dollar during the first half of the year on rising yields in the United States as the Federal Reserve continues to raise interest rates.

More ways to open China economy

But Trump's use of punishing tariffs to try to remedy his country's chronic trade deficits with China is also playing a significant role.

The yuan's internationalization is facing headwinds in the form of the currency's weakness driven by the "dark cloud" of the trade tiff, said Kelvin Lau, Hong Kong-based Standard Chartered senior economist for Greater China.

"As long as there is more tension or more uncertainty around U.S. and China trade, then you can imagine the trade volume between the U.S. and China will come down," he said. "And that sets back the overall renminbi internationalization in terms of the usage of renminbi as a trade settlement currency."

But, he cautioned, the story surrounding the yuan's future is complex and can't be summed up only in relation to China's trade war with the U.S.

"There are many, many ways that China can open up its economy," he said, citing the continued liberalization of stock and bond markets, and highlighting that the country is also lowering a lot of trade barriers, such as for automobiles.

"So I think China is still very committed to boost its domestic consumption, invite in more imports, opening up its onshore financial sector to the rest of the world," he said.