The year 2023 may be remembered as the year a new global energy order between China and the Middle East is taking shape, the Financial Times reported.
According to Pozsar, “China wants to rewrite the rules of the global energy market”, as part of a larger effort to de-dollarise the so-called Bric countries of Brazil, Russia, India and China, and many other parts of the world after the weaponisation of dollar foreign exchange reserves following Russia’s invasion of Ukraine.
What does this mean in practice? First, much more oil trade will take place in renminbi. Xi Jinping has announced that over the next three to five years, China will not only dramatically increase imports from the Persian Gulf, but will also work on multidimensional energy cooperation. This could potentially include joint exploration and production in places such as the South China Sea, as well as investments in refineries, chemicals and plastics. Beijing hopes to have all of this paid for in yuan on the Shanghai Oil and Natural Gas Exchange as early as 2025.
This would mark a major shift in global energy trade. As Pozar points out, Russia, Iran and Venezuela account for 40% of OPEC+ proven oil reserves and all sell oil to China at a deep discount, while the GCC countries account for 40% of additional proven reserves. The other 20% are in regions in the Russian and Chinese orbit.
Those who doubt the rise of the oil yuan and the decline of the dollar financial system in general often point out that China does not enjoy the same level of global confidence, rule of law or reserve currency liquidity as the United States, making other countries unlikely to want to do business in renminbi.
Although the oil market is dominated by countries that have more in common with China (at least in terms of political economy) than with the United States. Moreover, the Chinese have offered a kind of financial safety net by making the yuan convertible into gold on the Shanghai and Hong Kong gold exchanges.
Although the oil market is dominated by countries that have more in common with China (at least in terms of political economy) than with the United States. Moreover, the Chinese have offered a kind of financial safety net by making the yuan convertible into gold on the Shanghai and Hong Kong gold exchanges.
While this does not make the renminbi a substitute for the dollar as a reserve currency, trading in renminbi does have significant economic and financial implications for policymakers and investors.
For one thing, the prospect of cheap energy is already attracting Western industrial companies to China. Consider the recent decision by the German concern BASF to downsize its main plant in Ludwigshafen and move its chemical production to Zhanjiang. This could be the beginning of what Pozar calls the "farm-to-table" trend, with China trying to capture more value-added products locally, using cheap energy as bait. (A number of European manufacturers have also created jobs in the United States because of lower energy prices.)
There are financial risks as well as benefits associated with oil policy. It should be recalled that the recycling of petrodollars by oil-rich countries to emerging markets, such as Mexico, Brazil, Argentina, Zaire, Turkey and others, by U.S. commercial banks since the late 1970s has led to several emerging market debt crises. Oil dollars also accelerated the creation of a more speculative, debt-fueled economy in the United States, as cash-rich banks created all sorts of new financial innovations, and the influx of foreign capital allowed the United States to maintain larger deficits. .
This trend may now begin to reverse. There are already fewer foreign buyers of U.S. Treasuries. If the petro-yuan takes off, it will light the fire of de-dollarization. China's control of large reserves of energy resources and the products derived from them could be a major new driver of inflation in the West. This is a slow-moving problem, but perhaps not as slow-moving as some market participants think.
"What should policymakers and business leaders do? If I were chief executive of a multinational company, I’d be looking to regionalise and localise as much production as possible to hedge against a multipolar energy market. I’d also do more vertical integration to offset increased inflation in supply chains.
"If I were a US policymaker, I’d think about ways to increase North American shale production over the short to medium term (and offer Europeans a discount for it), while also speeding up the green transition. That’s yet another reason why Europeans shouldn’t be complaining about the Inflation Reduction Act, which subsidises clean energy production in the US. The rise of the petroyuan should be an incentive for both the US and Europe to move away from fossil fuels as quickly as they can," he said.
