China, Nigeria Seal Currency Swap Deal In De-dollarization Ramp-Up

by Ike Obudulu Posted on May 3rd, 2018

Beijing, China: China and Nigeria signed a bilateral Currency swap agreement, that reduces their respective exposures to the U.S. dollar, in a ramp-up of the China led move towards de-dollarization and strategic challenge to dollar hegemony.

The Peoples Bank of China (PBoC) PBoC Governor, Dr. Yi Gang, led the Chinese team at the official signing ceremony in Beijing, China while Central Bank of Nigeria (CBN) Governor Mr. Godwin Emefiele, led the Nigerian delegation.

The Central Bank of Nigeria (CBN) said Thursday that the agreement was signed on April 27th adding that it was an outcome of over two years of painstaking negotiations by both Central Banks.

“The transaction which is valued at Renminbi (RMB) 16 billion, or the equivalent of about 2.5billion dollars, is aimed at providing adequate local currency liquidity to Nigerian and Chinese industrialists and other businesses. It will thereby reducing the difficulties encountered in the search for third currencies,’’ it said.

According to the statement, the agreement will provide Naira liquidity to Chinese businesses and provide RMB liquidity to Nigerian businesses respectively.

This, it said would improve the speed, convenience and volume of transactions between the two countries.

“ It will also assist both countries in their foreign exchange reserves management, enhance financial stability and promote broader economic cooperation between the two countries.

“With the operationalisation of this agreement, it will be easier for most Nigerian manufacturers, especially small and medium enterprises (SMEs) and cottage industries in manufacturing and export businesses to import raw materials, spare-parts and simple machinery to undertake their businesses.

“The deal, which is purely an exchange of currencies, will also make it easier for Chinese manufacturers seeking to buy raw materials from Nigeria to obtain enough Naira from banks in China to pay for their imports from Nigeria. Indeed, the deal will protect Nigerian business people from the harsh effects of third currency fluctuations,’’ it said.

The statement noted that with this agreement, Nigeria had become the third African country to have such an agreement in place with the PBoC.

It added that both the Nigerian and Chinese officials expressed delight at the conclusion and signing of the agreement and expressed the hope that it would boost mutually beneficial business transactions between Nigeria and the Peoples Republic of China

In a currency swap, the parties exchange interest and principal payments on debt denominated in different currencies. Unlike an interest rate swap, the principal is not a notional amount, but is exchanged along with interest obligations. Currency swaps can take place between countries, for example, China has entered into a swap with Argentina, helping the latter stabilize its foreign reserves.

The purpose of engaging in a currency swap is usually to procure loans in foreign currency at more favorable interest rates than if borrowing directly in a foreign market.

The World Bank first introduced currency swaps in 1981 in an effort to obtain German marks and Swiss francs. This type of swap can be done on loans with maturities as long as 10 years. Currency swaps differ from interest rate swaps in that they also involve principal exchanges.

In a currency swap, each party continues to pay interest on the swapped principal amounts throughout the length of the loan. When the swap is over, principal amounts are exchanged once more at a pre-agreed rate (which would avoid transaction risk) or the spot rate.

A common reason to employ a currency swap is to secure cheaper debt.

In addition, some institutions and countries use currency swaps to reduce exposure to anticipated fluctuations in exchange rates.

During the financial crisis in 2008 the U.S. Federal Reserve allowed several developing countries, facing liquidity problems, the option of a currency swap for borrowing purposes.

EARLIER: China Escalates Challenge To Dollar Hegemony As PetroYuan Goes Live – Beijing, China: The long-awaited Yuan-backed crude oil futures has been launched on the Shanghai International Energy Exchange with eyes on rival benchmarks Brent and WTI as well as US dollar dominance.The launch evoked a surge in global prices for oil with Brent Crude soaring to $71 a barrel for the first time since 2015. US crude benchmark West Texas Intermediate (WTI) reached the highest level in three years at $66.55 per barrel, before retreating to $65.53.

Trading of the new oil futures contracts for September settlement started 440.20 yuan ($69.70) per barrel and over 19000 lots have reportedly been sold and purchased so far.

Experts see China’s yuan-dominated contracts as historic as the new futures symbolize the first time that foreign investors can access a Chinese commodity market. The launch ends years of setbacks and delays since the country’s first attempt at listing the securities in 1993.

At the same time, the petro-yuan launch is seen as a blow to the US dollar that has been weakening in recent months. The US dollar is the predominant settlement currency for oil futures contracts. On Monday, the greenback slipped to a 16-month low against the Japanese yen, but remained steady against a basket of six major currencies.

Chinese authorities have reportedly accelerated the launch amid growing crude imports. Last year, the country outpaced the US as the world’s number one importer of oil. Thus, the contracts may not only help to win some control over pricing from the major international benchmarks, but also promote the use of Chinese currency in global trade.

China last year announced plans to price oil in it’s own currency, yuan, using a gold-backed futures contract in Shanghai in a major move against the dollar’s global dominance as the world’s reserve currency. The yuan-denominated oil contracts (convertible into gold) is unlike the contracts based on the U.S. dollar that currently dominate global markets.

The contract will enable the country’s trading partners to pay with gold or to convert yuan into gold without the necessity to keep money in Chinese assets or turn it into US dollars.

The new contract would be able to serve as a hedging tool for Chinese corporations, as well as support the government’s broader plans to extend the use of the national currency in trade settlement.

The new benchmark will reportedly allow exporters, such as Russia, Iran or Venezuela to avoid US sanctions by trading oil in yuan.

State-run media reported in September the plan was “moving swiftly.” Yuan pricing and clearing of crude oil futures is the “beginning” of a broader strategic push “to support yuan pricing and clearing in commodities futures trading,” Pan Gongsheng, director of the State Administration of Foreign Exchange, said last month.

To support the new benchmark, China has opened more than 6,000 trading accounts for the crude futures contract.

This means that Russia – as well as Iran, the other key node of Eurasia integration – may bypass US sanctions by trading energy in their own currencies, or in yuan. The yuan – according to some – will be fully convertible into gold on both the Shanghai and Hong Kong exchanges. The key message is the US dollar being bypassed.

Moving away from the dollar is a strategic priority for countries like China and Russia. Both aim to ultimately reduce their dependency on the greenback, limiting their exposure to U.S. currency risk and the politics of American sanctions regimes.

The end of US dollar hegemony has been a consistent message from Russian President Vladimir Putin.

“Russia shares the BRICS countries’ concerns over the unfairness of the global financial and economic architecture, which does not give due regard to the growing weight of the emerging economies. We are ready to work together with our partners to promote international financial regulatory reforms and to overcome the excessive domination of the limited number of reserve currencies,” Putin said during the BRICs summit in Xiamen.

“Venezuela is going to implement a new system of international payments and will create a basket of currencies to free us from the dollar,” President Maduro said in a multi-hour address to a new legislative “superbody.” He reportedly did not provide details of this new proposal.

Venezuela President Maduro hinted further that the South American country would look to using the yuan instead, among other currencies.

“If they pursue us with the dollar, we’ll use the Russian ruble, the yuan, yen, the Indian rupee, the euro,” Maduro also said.

China’s longer-term intentions were perhaps made more apparent by an essay by Dr. Zhou Xiaochuan, governor of China’s central bank, in March 2009.

“The outbreak of the current situation and its spillover in the world have confronted us with a long-existing but still unanswered question, i.e., what kind of international reserve currency do we need to secure global financial stability and facilitate world economic growth, which was one of the purposes for establishing the IMF? There were various institutional arrangements in an attempt to find a solution, including the Silver Standard, the Gold Standard, the Gold Exchange Standard and the Bretton Woods system. The above question, however, as the ongoing financial situation demonstrates, is far from being solved, and has become even more severe due to the inherent weaknesses of the current international monetary system.

Theoretically, an international reserve currency should first be anchored to a stable benchmark and issued according to a clear set of rules, therefore to ensure orderly supply; second, its supply should be flexible enough to allow timely adjustment according to the changing demand; third, such adjustments should be disconnected from economic conditions and sovereign interests of any single country. The acceptance of credit-based national currencies as major international reserve currencies, as is the case in the current system, is a rare special case in history. The situation again calls for creative reform of the existing international monetary system towards an international reserve currency with a stable value, rule-based issuance and manageable supply, so as to achieve the objective of safeguarding global economic and financial stability.”

China’s plans for oil futures trading go back more than two decades, with the government introducing a domestic crude contract in 1993 and stopping a year later amid an overhaul of its energy industry.

In 1973  agreement was made between OPEC, Saudi Arabia and the US to sell oil exclusively in dollars.

For the United States  the dollar’s position is of crucial importance.

This is due to its role as petrodollar, its position as a reserve currency and Nixon’s decision in 1971 to no longer make the dollar convertible to gold.

This major shift where the dollar was not linked to gold allows the Federal Reserve to push dollars virtually without limits. Thus, the United States can print paper bills without gold coverage. Washington thus achieves an unprecedented strategic advantage over its geopolitical opponents (originally the Soviet Union, now Russia and China), namely, a practically unlimited spending capability for dollars.

The other factor is that the dollar being the world’s reserve currency has had a dominant role in the IMF’s monetary policy since 1981. The dollar’s role is obviously linked to the petrodollar trade and it almost always holds a share of more than 40% of the Special Drawing Right (SDR) basket, while the euro has maintained a stable share of 29-37% since 2001. The yuan is now included in the SDR, with an initial share of 10% slightly higher than the yen (8.3%) and the pound (8.09%). China yuan currency is increasingly used in global trade.

Global demand for dollars is linked to other countries’ need to own dollars to buy oil and other goods. Virtually all countries have used dollars to trade between each other, even countries that were against US policies.

De-dollarization is important in the Russian-Sino-Iranian strategy to unite Eurasia, thereby reducing the influence of the United States.

De-dollarization for Beijing, Moscow and Tehran has become a strategic priority.

The United States inadvertently accelerated this process by removing Iran from the SWIFT system, which paved the way for the Chinese option, called CIPS, and by imposing sanctions on countries such as Russia, Iran and Venezuela. This also accelerated China and Russia’s mining and acquisition of physical gold.

Beijing has begun to press Riyadh to begin accepting the yuan’s oil payments instead of dollars, as well as other countries such as Russia. China is Riyadh’s largest customer.

In view of China’s agreement with Nigeria and Russia, Beijing can safely stop buying oil from Saudi Arabia if Riyadh continues to insist on being paid in dollars. This would also weaken the petrodollar.

For China, Iran and Russia, as well as for other countries, “de-dollarization” has become a pressing issue. Iran and India, but also Iran and Russia, have often traded fossil fuels in exchange for goods, thereby circumventing US sanctions.

Similarly, China’s economic power has allowed it to extend a 10 billion euro credit to Iran to circumvent the latest sanctions. Even North Korea seems to use crypto currencies such as bitcoin to buy oil from China and circumvent US sanctions. Venezuela (with the world’s largest oil reserves) has just begun a historic step to completely refrain from selling oil in dollars and has announced that it will begin to receive payment in currencies other than the dollar.

Beijing now buys gas and oil from Russia by paying in yuan, which Moscow can quickly convert to gold thanks to the Shanghai International Energy Exchange. This gas-yuan gold mechanism signals a revolutionary economic change by abandoning the dollar as a trading currency.

However, an obstacle standing in the path of China’s ambitions to price oil in yuan is the currency itself. The yuan is not yet fully convertible, it’s fixed daily, prone to intervention and subject to capital controls.

Given the regime of tight control over the currency, many global players are likely to assume a yuan-denominated oil benchmark would be firmly under Beijing’s thumb.

Author

Ike Obudulu

Ike Obudulu

Versatile Certified Fraud Examiner, Chartered Accountant, Certified Internal Auditor with an MBA in Finance And Investments who has both worked for and consulted with some of the world's largest companies on main street and wall street in over 20 countries, Ike brings his extensive reporting and investigations experience to bear on his role as Chief Editor.
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