Over the past two decades, China has been investing considerable efforts and capital in trying to become a global reserve currency. The current reserve currency, the United States Dollar (USD), has been in place since the end of World War II as a testament to the allies’ victory.
However, China has begun to threaten its hegemony. Recently, China has entered into talks with Russia and Saudi Arabia to purchase oil in the Chinese Yuan. This commodity has been reserved for the USD since the 1970s, so closely tied to oil that it has taken on the name of petrodollar.
China’s growing financial influence and ability to challenge the U.S. Dollar as a global reserve currency can be traced to its advancements in electronic and mobile payments, adoption overseas, and the development of a central-backed digital currency that can operate without ever touching the U.S. financial system.
Imagine ordering coffee or a snack at a streetside stall and instead of pulling out cash or a credit card, you simply hold your phone up for the vendor to scan. This might sound like something only available in the high-tech Silicon Valley, but it is an everyday occurrence in China.
Thanks to apps such as Ant Group’s Alipay and Tencent’s WeChat Pay, all that you need when going out is your phone. The use of these apps has become so ubiquitous that many vendors do not like taking cash for their services as it is easier to only use the electronic payment systems. Up to 90% of all transactions in China are made this way.
While the U.S. does have similar apps, such as Apple Pay, Google Pay, and Venmo, they do not have the widespread adoption or the confidence that their Chinese counterparts have. Apple Pay, a popular option in the U.S., is still accompanied by a physical credit card to help facilitate transactions.
The ease of use of these electronic payment methods from any smartphone has gained popularity in countries such as Nigeria, South Africa, and other developing countries. Citizens of countries that have high inflation and low confidence in banks find that these apps can fill the need for secure and relatively stable payments.
These transactions can occur in 13 individual currencies including the USD and the Chinese Yuan, drawing customers into the ecosystem because of its usefulness. This has created an ecosystem that is tied to the Chinese financial system and not the U.S.’s.
However, these apps also acquire customers’ personal data, transactions, and more to be sent back to WeChat and Alipay’s headquarters in China, muchlike data from TikTok users, despite their assurances against collecting foreign data.
Additionally, China has been developing and experimenting with a digital yuan, a central bank digital currency (CBDC) with China’s own blockchain. One of Bitcoin’s biggest opponents, China has taken the lessons being learned around the new technology and appropriated it to service its population.
A blockchain is a secured public ledger that tracks every transaction made on it. A Chinese-backed CBDC and its blockchain would open the door to an increased amount of surveillance into every financial transaction that a user makes. This would allow the Chinese Government to know how much someone is making and if they are paying the right taxes on it, or if someone is using the funds to purchase items illegally.
China’s CBDC will likely try to solve some of the issues that public cryptocurrencies such as Bitcoin and Ethereum have, like the high cost of capital and energy to conduct transactions. They would achieve this by outlawing any personal mining machines and would process transactions on central servers that wouldn’t compete with each other, which would drive up the costs.
This control of the blockchain in the digital yuan would also enable the Chinese government to change many concepts of how cryptocurrencies work. It would be able to fork (changing the base code) the blockchain at will or even reverse transactions that weren’t favorable to itself.
The biggest challenge the digital yuan poses to the U.S. financial system is that it doesn’t need to interact with it at all. Currently, all transactions between banks need to be processed by the SWIFT payment system, a European system that is transacted in USD. One of the most extreme sanctions against Russia was restricting its access to the SWIFT system.
Fearing that a similar sanction could affect them in the future, China has been developing alternatives to the system. The digital yuan and its ability to transact without a foreign processor provides an additional alternative to the Chinese payment system, the Cross-Border Interbank Payment System (CIPS).
CIPS, a direct alternative transacted in yuan to the SWIFT payment system, is another tool of the Chinese government to increase its financial influence and insulate itself from western sanctions. CIPS has a comparable performance to SWIFT but is currently lacking the same adoption amongst financial institutions. In the event of sanctions CIPS may help China transact domestically and abroad in some limited ways.
The growing influence of the Chinese yuan and an independent Chinese financial system can be attributed to the ease of use for their electronic payment systems both domestically and abroad, and their forward-thinking development of technology and systems that don’t need to use the U.S. financial system. These efforts combine to pose a challenge to the USD as the global reserve currency and may allow China to circumnavigate any financial sanctions from the West.