In an increasingly interconnected world, international economic relations are constantly evolving, shaping the global landscape in both political and commercial spheres.
Today, we stand at an interesting juncture where the flourishing connections between Saudi Arabia and China are setting the stage for potential trade transactions denominated in yuan, challenging the dominance of the US dollar in international commerce. However, this path towards a yuan-based trade system is not without hurdles.
Saudi Arabia’s Vision 2030 program and plans to host major events could lead to greater collaboration with Chinese entities, according to the ratings agency. Strengthening ties between Saudi Arabia and China could facilitate oil trade between the two nations in renminbi, as per S&P Global Ratings.
Yet, trading oil in yuan between Riyadh and Beijing faces «significant challenges» and could take decades to grow to a «significant scale».
However, deepening bilateral ties and long-term interest alignment could drive this process forward, the ratings agency noted in a report on Wednesday.
«Beyond the flourishing oil trade, which remains the cornerstone of their relationship, long-term plans such as Saudi Arabia’s Vision 2030 are fostering new institutional, financial, and cultural links between the two countries,» stated Charles Chang, China analyst at S&P.
«These new links will offer Saudis more outlets for using the renminbi, such as paying for Chinese engineering and construction services in the kingdom or investing in Chinese companies across an increasingly broad range of sectors».
The potential for increased oil trade denominated in renminbi hinges on exporters’ willingness to accept the Chinese currency as a payment method, contingent upon their ability to utilize the resulting revenues, according to the report.
However, given the yuan’s limited use in international trade and finance, there are relatively fewer spending opportunities, the agency added. Saudi Arabia is China’s largest trading partner in the Gulf.
The kingdom’s trade surplus with China has expanded from lows of $5 billion to $10 billion in 2015-2016 to between $20 billion and $40 billion over the past three years, according to the report.
Crude oil will account for approximately 84% of Chinese imports from Saudi Arabia in 2023, up from 67% a decade ago, according to S&P. The yuan is now the fourth most traded currency, having surpassed the Japanese yen last year, according to Swift data.
The rise of the Chinese currency represents a shift in the global financial landscape towards a more multipolar system, challenging the historical dominance of Western currencies and financial markets.
The share of the Chinese currency as a settlement currency for global trade has continued to grow despite weakening Chinese exports to Western countries. Efforts to increase global use of the yuan were thwarted by a sharp depreciation in late 2015.
However, early in 2022, escalating geopolitical risks led to a resurgence of its role in global trade. These episodes underscore the pull factors of trade and the push factors of geopolitical risks that continue to characterize the use of the renminbi.
Riyadh has focused on maintaining a balance between its relationship with its primary security ally, the US, and its relations with China and Russia, its key energy partner within OPEC. Last year, China and Saudi Arabia signed a $70 billion local currency swap agreement as part of efforts to boost trade using their own currencies and reduce dependence on the dollar.
More recently, Saudi Arabia became a participant in the mBridge project, a collaborative effort to develop a new cross-border payment system using central bank digital currencies. It was launched in 2021 among the central banks of China, Hong Kong, Thailand, and the UAE.
«The escalation of geopolitical events, shifting national interests, and growing non-US trade, particularly with Asia, in recent years led some emerging economies to seek diversification of their foreign relations,» said S&P.
Dollar dominance
Gulf exporters’ currencies, including those of Saudi Arabia, UAE, Iraq, and Oman, are pegged to the US dollar. If the dollar appreciates against the yuan, as has been happening over the past year, selling oil in the Chinese currency would reduce their revenues in national currency, according to the agency.
Moreover, Beijing has yet to outline a roadmap for addressing these issues and liberalizing the country’s currency and capital account. This leaves a high degree of uncertainty regarding the ability to manage future petroyuan-related risks.
Around 88% of all currency transactions involve the dollar as the exchange currency, while half of international trade is conducted in dollars. Although the dollar remains the most dominant currency in central banks’ foreign exchange reserves worldwide, its share in these reserves has decreased from over 70% in 2000 to around 55% in the last quarter of 2023, once exchange rate and interest adjustments are accounted for, according to International Monetary Fund data.
Growing association
Saudi Arabia’s Vision 2030 program, aimed at reducing the country’s dependence on oil exports and diversifying its economy, along with plans to host major events, could lead to greater collaboration with Chinese entities, according to the report. The kingdom will host the 2029 Winter Asian Games, Expo 2030, and the 2034 FIFA World Cup.
«For China, oil trade denominated in yuan and the resulting Saudi need to spend future revenues in yuan would provide a self-sustaining logic for Saudi Arabia’s participation in China’s Belt and Road Initiative,» said S&P.
The Belt and Road Initiative, a mega-project launched in 2013, aims to connect several countries across Asia, Europe, and Africa through a network of infrastructure projects and trade-related projects.
