Can the Digital Yuan Overturn Sanctions on Russia Following the Ukraine Crisis?

Can the Digital Yuan Overturn Sanctions on Russia Following the Ukraine Crisis?

Today, the 01st of March 2022, the S&P 500 ended lower after increased volatility. Within the past week, the S&P 500 dropped significantly and kept dropping further into correction territory. Dow Jones closed at its lowest level thus far for 2022.

The CBOE Volatility Index (VIX), which indicates the short term investing risk of the S&P 500, is currently hovering well over 30, indicating the increased uncertainty in the market. The increased volatility presented by the Ukrainian conflict on global trade is reflected in North American, European, and Asian Stock Markets, where stocks are hitting new lows.

Investors around the world face uncertainty in the ongoing crisis, while bank stocks dropped after sanctions were placed on Russia, with several Russian Banks being cut off from the SWIFT system.
Russia among many other nations are no newcomer to Western Sanctions. Russia’s largest trading partner currently, China, has been increasing its trade volumes with the country in the past decade. Russia has also been steadily increasing its Renminbi reserves, indicating a shift away from dollar trading.

Last January, the People’s Bank of China (PBOC) released a test version of the Digital Yuan app. The eventual adoption of the Digital Renminbi has the possibility to change the landscape of global trading. Sanctions imposed by NATO and its allies can begin to mean very little.

What are Russia’s Global Trades, and What Effects Would Sanctions Have on the Country?

In 2022, Russia remains an over $1.5 Trillion Dollar economy. The Russian Federation is among the world’s top exporters of oil, natural gas, copper, palladium, aluminum, and many other essential commodities. Sanctions against the country can lead to an unpleasant increase of energy prices in the West.

In light of the Ukraine crisis, the US and other Western powers would be cutting off trade with an economy as large as Russia’s for the first time in its history. This is bound to hurt NATO and its members far more than the Russian Federation.

After China, one of Russia’s largest trading partners is the EU. The group of countries depend heavily on Russian Exports for their energy needs. NATO members in the EU include Germany, Denmark, Latvia, Spain, Turkey, Romania, Portugal, The Netherlands and several more.

Germany, a still significantly coal-dependent country, imports nearly half of its coal and a third of its Natural Gas from Russia. Some German economic experts claim that sanctions on Russian trade is a “ticking time bomb” for Germany’s economy.

A recent slow-down in the flow of Natural Gas to Denmark over the winter had already caused an amount of discomfort to its citizens, any further cut off of trade of Natural Gas to the country would be a nationwide crisis.

Apart from depending on energy exports, businesses in the EU that have partnered directly with Russian businesses for raw materials and other needs will be dramatically affected as a result of sanctions.

An immediate effect of trade sanctions on Russia is going to be a stark rise in inflation in many EU and other Western countries. If sanctions target Russia’s ability to export oil, coal, or natural gas, it can lead to energy shortages. This scarcity will cause a sharp increase in energy prices, specially within the EU, and spillover to increased prices of goods in other areas.

Russia is also a large food supplier to the EU. Food prices for example will inevitably rise due to increases in production and transportation costs combined.

A decline in people’s purchasing power over food, energy, and other necessities are first going to hit low-income families around the EU hard, before its effects are felt elsewhere in society.

Russia’s Gazprom (OGZPY) is the World’s Largest Natural Gas Company.

Are Eastern Economies Moving Away From the US Dollar?

Outside the EU, countries like India depend heavily on Russian fertilizer exports for growing crops in its vast farming sector. Russia exported $1.6 Billion worth of important mineral oils, fertilizer, and rough diamonds to India in 2021 alone.

In the past 20 years, more than 66.5% of India’s weapons imports were from Russia.
To buffer the effects that sanctions on Russian trade would have on India, the country is exploring ways to build a rupee payment system.This will allow India to continue trading directly with the Russian Federation, overriding sanctions, and securing Indian industries against possible dire setbacks.

With tensions still present and ever growing among the US and its allies since the Cold War, and increasing Western sanctions on the Russian Federation, the country has been working to make itself independent of trade using USD.

Immediately responding to possible sanctions on Russian trade, the Chinese government lifted all restrictions on Wheat imports from Russia. But bilateral trade between the two economies goes further and deeper than that.

Trades carried out in Renminbi between China and Russia in the first half of 2021 accounted for 28%, rising from just 2% in 2013.

Starting in 2010, Russia and China began the countries’ respective currencies for bilateral trade payments instead of the USD. Their first currency swap line was introduced in 2014. Swap lines are an agreement between two Central Banks to keep a supply of each currency to settle trades between the banks at the going exchange rates. In 2020, the currency swap line between China and Russia was increased to 150 Billion Yuan.

After Saudi Arabia, Russia is China’s second largest oil supplier, accounting for 15.5% of Chinese oil imports. The Russian Federation is also the 3rd largest natural gas supplier to China.

Although Russia is not officially a member of China’s Belt and Road Initiative (BRI), Russia is closely tied to the megaproject. According to Igor Denisov, a senior research fellow at the Moscow State Institute of International Relations, Russia is “…a supporter of Chinese global outreach as long as it is in Russia’s interests”.

Russia is increasing its volume of Chinese investments at home. In recent years, Chinese State Banks have participated in financing energy and infrastructure projects in the country under the BRI.

Russia and China were directed to increase trade between the two countries by $200 Billion by 2024. However, this goal has been renewed to $250 Billion.

Russia is no newcomer to international sanctions, and the country’s financial system remains stable in spite of them.

There Maybe No Good Alternatives to Russian Oil and Gas

SWIFT Sanctions and Rising Alternatives

As of now, the European Union has excluded 7 Russian banks from the SWIFT system as a response to the Ukrainian conflict.

VTB (Russia’s second-largest bank), Bank Otkritie, Novikombank, Promsvyazbank, Bank Rossiya, Sovcombank and VEB were all given a 10-day window to discontinue the use of SWIFT.

However, Sberbank and Gazprombank were not included in the list of banned Russian banks. These two banks are the main financial institutions through which most EU countries pay for Russian Oil and Gas.
The heavy dependence of the EU on Russian exports renders them unable to cut off trade with Russia in the long run.

Despite SWIFT sanctions, Russian banks can continue settling overseas payments through bilateral messaging systems where they exist, or simply, by using methods predating SWIFT, such as faxes.
Bank Otkritie and VTB said they would not be affected by SWIFT sanctions. VEB too has said that they would not be affected as they mostly handle affairs within Russia. Sovcombank was already cut off from making cross-border payments, while Promsvyazbank was prepared for any impending sanctions.

Furthermore, the rise of alternative cross-border financial messaging systems, such as CIPS (China) and SPFS (Russia), makes the SWIFT sanctions on Russia unrealistic.

SPFS was developed by the Central Bank of Russia in 2014 as a response to threats from the United States government to disconnect Russia from SWIFT at the time.

In 2015, China introduced its own SWIFT equivalent, Cross-Border Interbank Payment System (CIPS). China is Russia’s largest trading partner, and several Russian banks are already connected to the CIPS system- one bank is a direct participant. CIPS has become available to 103 countries in just 7 years. 1280 financial systems around the world are also connected to CIPS.

Standard Chartered Bank, HSBC, the Bank of East Asia, DBS Bank, Citibank, Australia and New Zealand Banking Group, BNP Paribas are some of CIPS’s foreign shareholders.

On 14th February, 2022 Standard Chartered Bank (Hong Kong) Ltd. became the first qualified direct participant in CIPS outside of mainland China.

The Cross-Border Interbank Payment System may prove to become a competitive alternative to Belgium’s SWIFT.

Shell Continues to Buy Russian Oil

The Rise of the Chinese Renminbi as a Global Reserve Currency

On the 30th of November 2015, the IMF declared that the Chinese Yuan qualified for the Special Drawing Rights (SDR) basket as of 01st October 2016. The SDR is a special foreign currency reserve maintained by the IMF.

Four other currencies are included in the SDR basket with the Yuan – USD, Euro, GBP, and Yen.
The inclusion of the Renminbi in the SDR basket means that the CNY will be included in global foreign exchange reserves: every Central Bank around the world will hold Chinese Yuan assets.

The Renminbi now has all the features of an international currency, with a bulk of nations increasing their direct trades with China more and more. The Yuan has progressed from a trading currency, to an investment and financing currency, and has now reached the early stages of a global reserve currency.

In this light, many financial centers around the world are now increasingly enthusiastic about becoming foreign Yuan markets. Principle among them are Hong Kong and Singapore. The CNY is the 3rd largest in Hong Kong’s currency holdings after the USD and HKD. In 2015, 6 Trillion CNY were cleared through Singapore alone.

In 2014, the UK government issued sovereign bonds valued at 3 Billion Renminbi. The outcome of the sale was due to be used as Yuan foreign exchange reserves. It was the largest volume of sovereign bonds to be issued by a government other than the People’s Republic of China.

In the past 20 years, the Chinese Renminbi has demonstrated commendable stability through international financial crises. For this and other reasons, the establishment of the Yuan as a reserve currency of choice for many nations around the world is well underway.

So far, the dominant position as the prime global reserve currency has been held by the US dollar.

Global Central banks will Accelerate the Rise of the Chinese Yuan

The Digital Renminbi: The Answer to Overcoming Trade Sanctions?

While the Digital Yuan rollout in China is still in its test stages, the enthusiasm of Chinese Financial Institutions around using the Digital RMB in place of physical RMB remains high.
The Digital Yuan is set to decrease China’s cash issuance and maintenance costs dramatically, and eliminate it entirely one day with 100% nationwide adoption.

Apart from the prospect of eliminating maintenance costs, the Digital Renminbi presents the possibility of excluding all financial intermediaries for completing payments.

This will not only reduce the cost of digital payments, but also significantly decrease Counterparty Risks involved.

Digital Yuan transactions are directly processed by the People’s Bank of China (PBOC) and its related institutions. Some financial experts weigh in that this feature of the E-CNY transaction system could one day help override economic sanctions on individual nations and facilitate effective bilateral trade between China and the respective country.

The rise of the Renminbi as a global reserve currency, and the adoption of the Digital Yuan combined has the potential to profoundly change the international trading landscape. It may not only help override harsh trade sanctions on smaller economies, but also create a more inclusive and more level playing field in international trade for developing economies to thrive in.

Digital Yuan Payments are on WeChat, and the Future of E-Payments