Wider Doorway for Yuan Trade Settlement

Nevertheless, the pace of yuan trade deals has been accelerating in recent months, according to statistics from the central bank.

As of late October, the total volume since July was less than 1 billion yuan. But the situation changed in November, and by mid-January, transaction volume had topped 4 billion yuan. Then in just one week between January 16 and 22, total trade volume reached close to 500 million yuan.

Officials say significant demand for yuan settlement has yet to be met, particularly among Chinese enterprises reacted to fluctuations in the exchange rates of other major currencies.

Li said a study led by the central bank in November found demand for the program exceeded supply. The study concluded that enterprises with the ability to engage in international settlement negotiations should be allowed to use the yuan.

Local governments have been enthusiastic about yuan settlement. Currently, more than 10 applications have been submitted to the State Council from governments in places including Beijing, Zhejiang, Jiangsu, Tianjin, Chongqing, Liaoning, Guangxi and Yunnan.

Foreign demand can be found beyond China's neighbors in countries such as Ukraine and Mongolia, which frequently trade with China, as well as Chinese enterprises that have invested in Africa and the Middle East.

Roadblocks Ahead

But unlike Chinese enterprises, overseas counterparts have been somewhat cold to the program. These often lack sources and operational channels for the yuan. And restrictions on the yuan's cross-border flow have created bottlenecks. 

China's regulations say foreign banks participating in the program must go through Chinese representative banks when moving yuan in or out of China. They also must buy and sell the currency according to prescribed quotas.

Statistics from the central bank show that, as of January 15, local representative banks had sold 450 million yuan and purchased 356 million yuan.

In practice, Chinese enterprises using yuan trade settlement to avoid exchange rate risk have inadvertently transplanted that risk to overseas enterprises.

A foreign enterprise that's paid in yuan has only two options: deposit the funds in an overseas branch of a Chinese bank, or wait to pay for products imported from China with yuan. But neither choice is desirable.

In addition, for now, the yuan is merely being used as a settlement instrument, lacking investment and interest-bearing value. So even if the central bank widens the domestic yuan settlement market or establishes an offshore market, the currency's partial convertibility will continue to pose challenges.

1 yuan = 14 U.S. cents

Full article in Chinese: http://magazine.caing.com/2010-01-31/100112359.html