China has enjoyed a formidable economic ascent. At the turn of the millennium, China’s GDP, when measured at market exchange rates, was around one-tenth the size of its US equivalent. By 2017, that figure had risen to over 60%, and is expected to continue rising. On other measures of economic activity, China has performed extremely well, too. It is now the world’s largest trading economy, in goods at least. And it is an increasing source of foreign direct investment, particularly for emerging economies. This success story notwithstanding, China’s rise in currency markets has been much more muted.
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One obvious area where China lags relative to the size of its economy is in currency markets. The renminbi’s share of global foreign reserves is less than 2%. That compares to a figure of almost 60% for the US dollar, and around 20% for the euro. The dollar’s status as the world’s reserve currency does not appear to be under material threat from China. Indeed, the US dollar only replaced sterling as the principal reserve currency some fifty years after the US became the world’s largest economy.
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Being the world’s reserve currency confers significant benefits on the sovereign that owns the printing rights over that currency. The rest of the world has to hold assets denominated in that currency in large quantities, irrespective of the yield on those assets. Consequently, the average return achieved by the rest of the world on its assets held in dollars is far lower than the average return US citizens achieve on their holdings of non-dollar denominated assets. The difference in yield runs to 3–4% per annum. That yield differential can be thought of as a gift, from the rest of the world to the US, worth around 4% of US GDP per year every year. The name for that flow of money is seigniorage — specifically the seigniorage that flows to the printer of reserve currency.
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The currency itself is a platform upon which a network of mutually reinforcing superstructures has been built — encompassing trade, international banking, internationally accepted hard currency for domestic transactions, and the pre-eminent store of wealth for households, firms and governments globally. This platform will be very hard to dislodge without first unpicking all of the dependencies. None of that is impossible, but it is not a process that takes a few years; rather, a few decades. While China’s GDP is likely to continue to close the gap with the US, the greenback’s status as the world’s reserve currency looks like it will be safe for many more years to come.
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