Should miners trade in yuan?

A month or so ago, before I was struck down with a monstrous lurgy, Rio announced that it was considering pricing some of it’s iron ore sales in yuan. From The Australian:

In another sign of China’s growing power in world markets, the world’s third-largest miner is openly canvassing switching its iron ore settlements from US dollars to the Chinese yuan as China buys more iron ore and pressure grows to trade in the national currency.

Rio Tinto iron ore chief Sam Walsh said yesterday that the issue had been raised by many of the company’s Chinese customers at recent meetings in Beijing.

“For us, it’s a complex issue because our financing is in US dollars and trading in US dollars acts as a natural hedge, but it’s certainly something we will be looking at and studying,” Mr Walsh told a business lunch in Melbourne.

“We don’t have any initial plans . . . for us, having that currency hedge is an important element of financing and protecting our business.”

China is trying to develop a deep market in offshore yuan, or renminbi (RMB), to pave the way for a free float of the currency. An official offshore RMB market, launched in August last year, is now worth $65 billion and HSBC predicts it could reach $130bn by year’s end.

At the time I referenced the article in links and commented that the development was “massive”. Why so?

The main reason is this: if one or both or Australia’s major miner’s were to begin pricing large quantities of Chinese trade in yuan, they will intrinsically be promoting that currency as the reserve of tomorrow.

What’s so bad about that I hear you scream? Who cares, others might opine.

Well, it’s not intrinsically evil or anything but such a move would represent a major strategic shift for the nation. The fact is, as Europeans and especially the French have understood for a long time, owning the reserve currency comes with certain privileges. Namely, that folk around the world and across myriad global markets can’t get enough of your dough or your debt. In short, if you own a reserve currency, you can issue more debt, for longer, than anyone else.

That, in turn, enables something else – deep military spending.

I’m not for a moment suggesting that this is what Rio would like to see happening and, indeed, today it released some more details of what it has in mind, which seems relatively minor. Again from The Australian:

Rio Tinto plans to double its purchases of Chinese mining equipment to $US1 billion ($940 million) this year, potentially increasing the attraction of settling some of its iron ore sales to China in yuan.

In a presentation to Australian investors, Rio’s China managing director, Ian Bauert, said China presented an opportunity to purchase more dump trucks, rail cars, ship loaders and mine accommodation units.

Purchases from China would grow from $US500m last year to “potentially $US1bn” this year, Mr Bauert said.

The announcement comes just a week after Fortescue Metals Group, the nation’s third-biggest iron ore producer, said it was planning to settle some of its sales in yuan so it could more easily make purchases in China.

A Rio spokesman would not say whether Rio had similar designs for some of its iron ore sales.

Early last month, Rio iron ore chief Sam Walsh said the company was looking at settling iron ore sales in yuan because of pressure from China to do so.

But he stressed Rio had no plans to do so because the company’s US dollar settlements acted as a natural hedge.

Mr Bauert, who was Rio’s Perth-based head of iron ore marketing until late 2009, was sent to China in the wake of the Stern Hu bribery case that saw Mr Hu, an Australian citizen, and three Chinese Rio iron ore employees jailed. Rio has been doing all it can to show the big Asian commodities buyer its intentions are honourable since the embarrassing failure of Chinalco’s $US19.5bn deal in 2009 to buy 18 per cent of Rio and up to 50 per cent of many of its best assets, and the arrests shortly after.

Mr Bauert said Rio was seeking a “more holistic relationship with China beyond pure supply”.

That seems fair enough but could easily be the thin end of the wedge.

It may seem a bit obtuse to ask whether Australian miners should be engaged with China in this way. After all, they sell them raw materials with which to build weapons every hour of the day.

However, there is a quantitative difference between doing that and helping China to create a reserve currency. A reserve is an epic strategic power to hold.

And consider for a moment the current ugly contest between the two existing global reserve currencies. The $US and the Euro are caught up in something of a race to the bottom. In Europe, the failure to integrate fiscally is exposing its peripheral countries to attacks on their debt and the currency appears headed ultimately for an accident, either through partial breakup or through some form of quantitative easing. In the US the fiscal problems are man made and, given the right remedy, can be overcome. Nonetheless, its private sector will continue to struggle for years to come and so easy monetary policy will be with us for a long time.

If a major new reserve currency were to pop up in this environment, backed by low debt and significant export strength, there’d be a rush to get into it. And fair enough too.

Except for one problem. That would also create the conditions for a rush out of the old reserve currencies. Which would exacerbate the sudden strategic decline of the old and accelerate the rise of the new.

This is all very speculative, I know. And there’s probably nothing that can or should be done about it, being in the sweep of history and all that. I’m just wondering, is miners pricing in yuan in Australia’s long term national interest?

David Llewellyn-Smith
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  1. A floating Yuan should be the pre – requisite otherwise it makes more sense to keep trading in USD or alternativly a basket of currencies including the AUD/CHF.

    Scary though either way

  2. Speculation that the yuan would at some time become reserve currency has been gaining ground for some time. I think Roubini forecast this role for the yuan in 5 or so years and others in ranges of 3 to 10 years.

    This may be part of the natural progession for Chinese economic and military power (assuming no collapse) and there is no question that Chinese geopolitical interest in the region is substantial – anyone in doubt read Robert Kaplan’s ‘Monsoon’.

    The miners will choose to trade in what is in their best interests and some tentative venture into non-USD trade can be expected, if deemed by the parties concerned to be mutually beneficial. Your broader take on the result of such trade may enter realms not normally part of commercial consideration!

    H&H, with speculation like this you really have someone choking on their herbal tea and oatcakes!

  3. Given the Yuan peg there doesn’t seem to be any operational advantage to miners in such a move. Instead of trading in US dollars they would be trading in 1/6 US dollars, or whatever the peg is. Strategically there may be some benefit to miners in terms of currying favour but I think they’d be kidding themselves. We saw what happened during the GFC when China got a whiff of a switch in the power balance. Miners had to bend over and part cheeks. If miners go down this path they ought to be getting something quantifiable in return.

    • ps. Given that China accumulate ship loads of US dollars via its trade surplus with the USA why wouldn’t they want to be using those dollars to purchase raw materials from miners?

      In other words if they want to trade Yuan it makes more sense for them to me doing this for things they SELL rather than for things they BUY, at least while they hold said ship loads of US dollars.

      • In some respects its more a political play than an economic one – China has expressed a desire to see the Yuan as an international currency perhaps also a little poke at some anti-China sentiment in the US. A reminder there’s a new player in the game, one that does want to move to a more influential position befitting their growing global strength (as they see it).

        • yeah understand the political side but at the moment they hold shit loads of US dollars. I don’t understand why they wouldn’t want to continue to trade these for actual physical stuff that they need, e.g. iron ore and coal, and run down these reserves. So work towards being a reserve currency by using coercion or persuasion to make buyers of their goods (bar USA) pay in Yuan, while continuing to decrease US paper by buying fair dinkum physical stuff.

          Given they run trade surpluses with many countries this would force a lot of countries to be holding Yuan, …which achieves their (apparent) goal.

  4. A free-floating of the yuan? It’s a joke, right? Chinese companies are forced to hand over their foreigner earning to the Chinese Central Bank to keep them under control. It will require a revolution before the CCP will let go of that leash.

  5. “as Europeans and especially the French have understood for a long time, owning the reserve currency comes with certain privileges”

    Surely you meant to say
    “as the Europeans and the French and in recent decades the US in particular have understood for a long time, owning the reserve currency comes with certain privileges”

  6. Not using US dollars wont make them any friends in the US, look what happened to iraq once they talked about using EURO for oil. 🙂

    Even talking about the Yuan been a reserve currency is a joke, its never going to happen. Who trusts china not to print abuse their money?

  7. If they want their suppliers to take Yuan in payment for commodities, they will eventually have to accept foreign investment in Chinese assets. That opens up a whole new can of worms.

  8. H&H Russia have already done some trades with China in CNY (no USD conversion), so there is some action, but I have no idea about the size of it.

    If we used CNY I imagine we’d get savings in FOREX charges AUD->USD->CNY vs AUD->CNY.

    I don’t think the trade in CNY would lead to it being used as the world reserve currency. There is an IMF paper on this topic, and the CNY is part of the basket of currencies in a SDR reserve currency.

    I don’t know the full implications of the USD falling and how that effects the conversion to the CNY, so China might have an issue with the debacement going on?

  9. Unless we persist in the Murdochian view of China as boogeyman, there is every reason to welcome the renminbi as another reserve currency. It is far better managed than the USD or the Euro, it is far more likely than they are to appreciate, and it helps central banks distribute risk more effectively.

    It may also help, indirectly, to curb America’s mania for world domination which is bankrupting it and causing untold misery throughout the world.

  10. long time ago an old professor said: strong currency has to be backed by gold or by lead (bullets)

    gold is gone …