Digital Yuan gives China a new tool to hit back critics

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Even as China grows in economic and military might, nothing may reveal Beijing’s weaknesses more than US control over the global financial system.

China has recently looked for ways to counter US sanctions after the Trump administration attacked Chinese officials and companies over policies from the South China Sea to Xinjiang. The Hong Kong leader does not have access to a bank account and a Huawei Technologies Co. is being held in Canada. Even the state-owned banks of China are comply with US sanctions.

That’s one reason the Biden administration is starting to investigate whether China’s development of a digital currency will make it more difficult for the US to enforce sanctions, Bloomberg reported earlier this month. The digital yuan, which could be rolled out more widely during the 2022 Winter Olympics in Beijing, is also urging the US to consider creating a digital dollar.

But instead of challenging US dollar dominance and neutralizing sanctions, the digital yuan appears to have potentially more geopolitical importance as leverage for multinational companies and governments seeking access to China’s 1.4 billion consumers. Since China has the ability to track transactions using the digital currency, it may be easier to retaliate against anyone who rejects Beijing on sensitive issues such as Taiwan, Xinjiang and Hong Kong.

‘If you think the United States has a lot of power through our Treasury sanctions authorities, you haven’t seen anything yet, ” said Matt Pottinger, former US deputy national security adviser in the Trump administration. said last week at a hearing by the government-backed US and China Economic and Security Assessment Committee. “That currency can be turned off like a light switch.”

So far, China has primarily opposed the beating of foreign companies in response to US actions against companies such as Huawei by delaying the release of a “list of untrustworthy entities” designed to punish anyone who defends national security. harms. Any move to cut off access to the digital yuan would entail similar high stakes, which could force foreign investors to pack up and leave.

But Beijing is after companies like Hennes & Mauritz AB for statements on human rights issues, even though government officials have made sure not to directly endorse a boycott. In a Weibo post last month, the Communist Party Youth League stated, “Do you want to make money in China while spreading false rumors and boycott Xinjiang cotton? Wishful thinking! “

Controlling access to China’s massive market remains the best way for Beijing to strike back to the US: As long as Chinese companies still want access to the wider financial world dominated by the US and its allies, Washington can effectively impose sanctions against almost everyone who doesn’t. don’t work exclusively in China’s orbit. And Beijing has little incentive to avoid the dollar.

While President Xi Jinping has called for greater self-sufficiency in key technologies such as advanced computer chips, a financial disconnection from the US would only hurt the Chinese economy and potentially expose the Communist Party more to destabilizing attacks. After Xi effectively ended Hong Kong’s autonomy last year with a sweeping national security law, the US. aside from cutting off the area’s ability to access US dollars due to the potential devastation of the global financial system.

‘Great commercial risk’

Widespread use of the digital yuan – also known as the e-CNY – could provide the Chinese central bank with more data on financial transactions than the big technology giants, allowing the Communist Party to both tighten its grip on power and fine-tune its policies to strengthen the economy. While that level of control can spur growth in the world’s second-largest economy, it also risks fearing businesses and governments already wary of China’s track record of intellectual property rights, economic coercion and the rule of law. to make.

The state-approved boycott of H&M by China reveals a “high commercial risk” to companies using the digital yuan, Yaya Fanusie, deputy senior fellow at the Center for a New American Security in Washington, told the US-China Economic and Security Review Commission to hear. If foreign merchants had to use the e-CNY, he said in a separate email, the government could ban transactions with H&M wallets and the store could disappear from digital yuan apps.

“This is the other side of the coin – Beijing not as a sanctions evader, but more empowered to enforce its own financial clout,” said Fanusie, who has written extensively on how the central bank’s digital assets will overcome financial sanctions. USA. “China’s digital currency is as much about data as it is money,” he added. Foreign companies using the digital yuan “could end up handing over a lot of real-time data to the Chinese government that it could not efficiently access through conventional banking technology.”

China’s ability to see every transaction could make it difficult for foreign banks to use the digital yuan while still enforcing confidentiality rules in their home countries, said Emily Jin, a research assistant at the Center for a New American Security. But, she added, the currency may appeal to some regimes that prioritize control over privacy protection.

Limited role

Yuan’s share of foreign exchange reserves small compared to the size of the economy

Source: International Monetary Fund

“They may find it easier to more authoritatively persuade governments that it helps to monitor provoked activities or to stop or stop them quickly before they happen,” Jin said. “They’re not going to market it to everyone.”

The digital yuan would serve asuntil Alipay from Ant Group Co. and WeChat Pay from Tencent Holdings Ltd., which together make up 98% of the mobile payments market, according to Mu Changchun, director of the central bank’s Digital Currency Research Institute. Last month huh said the electronic yuan has the “highest level of privacy protection” and that the central bank would not know users’ identities directly, but the government could obtain that information from financial institutions in case of suspected illegal activity.

Dollar Challenge

Chinese policymakers have also repeatedly stressed that the digital yuan is not intended to challenge the dollar, with Deputy Governor Li Bo of the People’s Bank of China saying last weekend that the motivation for the e-CNY is mainly for household use. Former PBOC Governor Zhou Xiaochuan downplayed the risks posed by the technology to the global financial system on Wednesday at the Boao Forum, saying the digital yuan will mainly be used for small retail payments.

The Chinese currency now makes up about 2% of the world’s foreign exchange reserves, compared to nearly 60% for the US dollar, and most of Beijing’s trade and loans in Xi’s Belt-and-Road Initiative are paid out in dollars.

Any serious challenge to the dollar’s position as the world’s reserve currency would also require significant policy changes from China, including lifting capital controls that help the Communist Party contain the sudden outflows that could trigger a financial crisis. Even if the digital yuan could be handled more cheaply outside of the US-controlled global payment systems, it’s unclear if anyone would take advantage of it.

“The dollar is not the dominant reserve currency because the Americans say it should be,” said Michael Pettis, a professor of finance at Peking University and a senior fellow at the Carnegie-Tsinghua Center in Beijing. “The dollar is the dominant reserve currency because the Chinese, the Europeans, the Japanese, the South Koreans, etc. say it should be. It’s the rest of the world that is imposing that because they think it’s the safest place to park money. “

Digital ambitions

Central banks are at various stages of digital currency development

Source: Bloomberg

The US still has an incentive to set standards for digital currencies. In a survey last year of 65 central banks representing 91% of global economic output, the Bank of International Settlements found that more than half experimented with digital currencies and 14% progressed to pilots. The US itself is taking a cautious approach: Federal Reserve Chairman Jerome Powell said last month that policymakers need to understand the costs and benefits of a digital dollar and not rush the “very, very large, complex project”.

‘Waking’

China began investigating the digital yuan in 2014 right after the price of Bitcoin rose from $ 13.40 to over $ 1,000, increasing the risk that digital currencies could affect Beijing’s control over monetary policy. It has started technically testing with Hong Kong for cross-border payments, and working with Thailand and the UAE on real-time foreign exchange settlement Authorities are also studying how the digital yuan can be combined with 5G networks and the internet of things.

This kind of research gives China a greater say in how other countries around the world design digital currencies, especially when it comes to questions about surveillance, privacy and anonymity, said Josh Lipsky, director of the Atlantic Council’s GeoEconomics Center.

“China is really leading in this field and it should be a wake-up call for the US and Europe,” said Lipsky. “There is a serious advantage to the first mover not because of what China will do, but because of what other countries are doing.”

– With the help of Lucille Liu

(Updates with comments to former PBOC Governor Zhou Xiaochuan in 16th paragraph)