Chronic. Sanctions against Russia in response to the invasion of Ukraine barred Russian banks from doing business in the West; some of them were cut from Swift, the banking messaging system for international payments. The securities and deposits of the Russian Central Bank have been frozen, which makes it unable to stem the fall of the ruble. It is also unable to act as a lender of last resort for financial institutions which, like Sberbank, have foreign currency obligations. These measures are financially and economically devastating, which is precisely their purpose.
But they will affect the international monetary system in the longer term, in particular the way States hold foreign assets. Will they seek refuge in China, which has not sanctioned Russia, and in its currency, the yuan?
Limited use of the yuan
Recent experience suggests not. Over the past two decades, the share of the dollar in identified foreign exchange reserves in the world has certainly fallen by around 10%. But this diversification only benefited a quarter to the yuan and three-quarters to currencies such as the Australian dollar, the Canadian dollar, the Swedish krona and the Swiss franc, which are easily negotiable. Combined, they constitute a reasonably sized and flexible aggregate, as they do not move at the same rate as the dollar. However, all their issuers, including Switzerland, support the sanctions against Russia: none of them is likely to serve as a refuge for governments that violate international norms.
Use of the yuan has remained limited in part because bonds and bank deposits denominated in the Chinese currency are not easily accessible to foreign official investors, at least in the appropriate quantities. Dim sum bonds (denominated in yuan and traded overseas and in Hong Kong) and overseas yuan bank deposits are accessible, but other instruments are less so. Although the Hong Kong and Shanghai Stock Exchanges have implemented a system (Bond Connect) allowing foreign investors to invest in China’s interbank bond market, few if any central banks are on the list of investors allowed to participate.
All major international and reserve currencies in history have been the currency of a democracy or republic where there are credible institutional limits to arbitrary executive action. Few reserve managers will be inclined to put their asset portfolios at the mercy of Xi Jinping.
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