According to a report by S&P Global, growing ties between Saudi Arabia and China could shift oil trade between the two nations to the Chinese currency, the renminbi or better known as yuan.
Strategic economic ties between Saudi Arabia and China are reshaping the global oil trade, particularly through the growing use of the Chinese renminbi (RMB) in oil transactions.
This development, often referred to as the petroyuan, represents a notable shift away from the dominance of the U.S. dollar in global energy markets and sets the stage for a potential transformation in the way oil is traded around the world.
Recent discussions about China paying for Saudi oil in renminbi have raised expectations that a significant portion of the massive oil trade could soon be denominated in the Chinese currency. However, while the concept of yuan-based oil trading is promising, it faces significant challenges and may take decades to become meaningful, S&P noted.
For Saudi Arabia, the prospect of renminbi-based oil trading is closely linked to its broader economic transformation under Vision 2030. The Kingdom’s ambitious plans, which include diversifying its economy and establishing new international partnerships, could offer further outlets for yuan spending, such as investing in infrastructure projects like the $500 billion NEOM giga-city and collaborating with Chinese companies in sectors like renewable energy and manufacturing.
A strategic partnership
Saudi Arabia, one of the world’s largest oil producers, has not shied away from cultivating a deeper relationship with China, the world’s largest importer of crude oil. This partnership is driven by mutual economic interests.
For Saudi Arabia, China represents a stable and growing demand for its oil exports, crucial to maintaining its economic stability and financing its ambitious Vision 2030 initiative, which aims to diversify the kingdom’s economy. Meanwhile, for China, securing a reliable and secure energy source is vital to sustain its rapid industrial growth.
The ongoing expansion of institutional and financial ties, driven by Vision 2030, could open up new channels for the use of the yuan, such as payments for Chinese engineering and construction services in Saudi Arabia or investments in Chinese projects in various sectors.
The introduction of renminbi-denominated crude oil futures contracts on the Shanghai International Energy Exchange in March 2018 was a notable step toward establishing a yuan-based oil pricing system. However, progress has been slow, mainly due to the limited use of the yuan in global trade and finance.
Most oil exporters, including Saudi Arabia, have currencies pegged to the U.S. dollar, and the risks associated with converting yuan to other currencies have hindered wider adoption.
Fluctuation in the exchange rate between the dollar and the renminbi presents additional challenges. If the dollar appreciates against the yuan, Saudi Arabia and other Gulf countries with dollar-linked currencies could see their domestic currency oil revenues reduced when traded in yuan.
The idea of liquidating oil trading in renminbi aligns with the strengthening of bilateral relations between Beijing and Riyadh. These ties are bolstered by strategic interests, such as Saudi Arabia’s Vision 2030, which aims to diversify the kingdom’s economy beyond oil and establish new financial and cultural connections with large global economies such as China. This evolving relationship could provide more opportunities for the use of the yuan and gradually change its role in bilateral trade.
Despite this, S&P Global stresses that the mere possibility of paying for oil in renminbi is unlikely to lead to a significant increase in its use.
A key factor is the willingness of oil exporters to accept the currency, influenced by their ability to use the proceeds. The limited use of the renminbi in international trade and finance presents challenges, including potential costs and currency risks.
This constraint helps explain why the yuan’s role in oil trade between Saudi Arabia and China remains modest despite mutual interest. This dynamic may change as the strategic relationship between Saudi Arabia and China evolves.
President Xi Jinping’s visit to Saudi Arabia in December 2022 marked a turning point, shifting the relationship from one focused primarily on oil to a more comprehensive partnership.
The renminbi is currently the third most used currency in SWIFT trade finance settlements, with 5.3% of transactions, behind the euro’s 5.9% and far from challenging the dollar’s dominant 84% share.
Despite this, geopolitical dynamics, especially rising tensions between the US and China, have given some impetus to the yuan as an alternative currency in global trade.
This trend is evident in trade between Saudi Arabia and China, where the share of oil in Chinese imports from Saudi Arabia increased to 84% last year, boosting the Kingdom’s trade surplus with China to between $20 billion and $40 billion in recent years, up from between $5 billion and $10 billion in 2015/2016.
The shift towards a yuan-based oil trade may depend on non-economic factors, such as strategic and geopolitical considerations. The diversification of global trade relations, especially among emerging economies, has led some countries to explore alternatives to the US dollar.
While challenges remain, there could be incremental progress in yuan-based trade, especially in sectors other than crude oil, such as natural gas and other traded goods.
The geopolitical landscape and strategic interests may gradually ease the yuan’s role, although it remains uncertain how quickly or broadly this will happen.
Saudi Arabia’s engagement with China could extend beyond oil trade, with significant investments in Chinese companies and projects offering other avenues for using yuan revenues. While there is potential for oil trade in yuan, it is constrained by considerable economic and financial challenges.
The future of this trade will likely depend on the evolution of strategic ties between the two nations, the development of new financial and institutional linkages, and the management of associated risks.
As these factors develop, the renminbi may gradually take on a more prominent role in trade between Saudi Arabia and China, although this is expected to be a slow and uncertain process, according to the rating agency.
