Posted by: Frederik Balfour on July 07

The Chinese yuan could overtake the Japanese yen to become the third most important international currency used in trade by 2012. Or so HSBC economist Qu Hongbin thinks. That’s a far sooner than most people expect, considering China just launched a pilot program allowing the settlement of trade in yuan a few days ago. In a research note sent on July 7, he went so far as to say that as much as 50% of China’s trade could be settled in yuan by 2012. How much money are we talking? A cool two trillion dollars [oops, I mean 13.6 trillion yuan!]That will certainly make for an interesting talking point at the G8 summit starting April 8 in Italy.

His note came a couple of days after China started allowing some overseas exporters and importers to settle their trade with China in yuan. Hong Kong, Macao, and a handful of Southeast Asian countries are part of the pilot scheme designed to make the Chinese currency, also known as the reminmbi, more freely used outside China by enabling them to use it for trading purposes. It’s all part of China’s aim to make the yuan eventually freely convertible, and one day, a major global currency along with the dollar, euro and yen.

In the past several years yuan has become more commonplace in Hong Kong thanks to the influx of Chinese tourists here. Hong Kong cabbies, Starbucks and hotels, as well as luxury purveyors like Louis Vuitton and Christian Dior all readily accept Chinese cash, as few mainland tourists pay with credit cards anyway. Hong Kong banks are also allowed to receive yuan deposits of up to 50,000 yuan per day from retail banking clients.

That’s small change compared to the business they are expected to gain from trade finance generated by cross border yuan settlement. Don’t be surprised to see more mainland bank branches opening overseas to position themselves for this burgeoning business. It also means that China will have less need to hold foreign reserves in dollars, so demand for U.S. treasuries and other securities in the future would be less than otherwise.

We have written about other developments to extend the use of the yuan overseas. HSBC and Bank of East Asia have received permission to raise money through the sale of panda bonds in Hong Kong, and Standard Chartered plans to sell yuan bonds on the mainland. And foreign banks are expected to get permission to list their local subsidiaries on the Shanghai Stock Exchange soon. It’s all part of making the yuan more widely integrated into the global economy. Who knows? Perhaps it won’t be too long before the baccarat tables at Macao are taking bets in yuan too.

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