How the Yen-Yuan Agreement Benefits the United States
by Jason Jenkins, Investment U Research
Thursday, January 12, 2012
What you may have missed during the last week of 2011 was the announcement of a currency pact between Tokyo and Beijing. Here’s your briefing of what went down…
During a visit to China by Japanese Prime Minister Yoshihiko Noda, China and Japan announced a series of deals that promote the use of the yuan in trade and investment between the world’s second- and third-largest economies.
On December 26, 2011, it was officially announced that Japan and China will promote direct trading of the yen and yuan without at first using dollars and will encourage the development of a market for companies involved in the exchanges.
What this means is that the two countries agreed to promote direct yuan-yen trade, rather than converting their currencies first to dollars, and also for Japan to hold yuan in its foreign-exchange reserves, which are now largely denominated in dollars.
This will limit some of the power of the dollar in Asia.
Not Just Japan
China also announced an $11-billion currency swap agreement with Thailand earlier in December as part of a plan outlined in October to promote the use of the yuan in the Association of Southeast Asian Nations (ASEAN) and establish free trade zones.
ASEAN is a geo-political and economic organization of ten countries located in Southeast Asia which aims include the acceleration of economic growth, social progress, cultural development among its members, the protection of regional peace and stability.
Their top six economies are: Indonesia, Thailand, Malaysia, Singapore, Philippines and Vietnam.
Central banks from Thailand to Africa have expressed interest in buying yuan assets as slowing global growth have knocked down interest rates in the more developed economies.
What it Means…
- From the Japanese point of view:
A Japanese government official said that in the future, Asian currencies “may become more important than they currently are.” However, Japan did not make this move to buy Chinese government debt based on a perception that the yuan is likely to become more popular and dominant than the yen. “The yen’s role will rather become more important to other countries if we deepen our relationships with them,” the official said. This is strategic positioning.
- From the Chinese point of view:
The Chinese have always been wary of the almighty dollar’s role in international trade, and has suggested other ways to run the international monetary system – this includes giving a bigger role to the International Monetary Fund (IMF) and a wider role for the yuan.
- The U.S. stance:
Harvard University economist Jeffrey Frankel said that “this hastens a multicurrency world, but this is just one of 100 steps along the way.” We know the yuan is far away from becoming an international safe haven currency like the dollar.
Yet, the U.S. government loves this agreement because it forces the yuan to be stronger on the international stage. For the yuan to play a larger role, China would need to restructure its monetary policy. Morris Goldstein, an economist at the Peterson Institute of International Economics in Washington D.C., said those policies would include sharply reducing its exchange-rate intervention, liberalizing interest rates, reducing restrictions on capital flows and putting its banking system “on a more market-oriented basis,” so the yuan can trade freely.
Good Investing,
Jason Jenkins
Article by Investment U
