(Mar 17): The world’s biggest oil importer has found itself contemplating rock-bottom prices and the opportunity for an unprecedented power play. Russia and Saudi Arabia’s struggle for market share — and the resulting tumble to near US$30 ($42.56) a barrel — has left China in a position to dictate conditions. That may include encouraging the world’s top two exporters to price and sell more of their crude in yuan.
Last year, Beijing imported a record 506 million metric tons of crude oil, according to official customs data — roughly 10 million barrels a day. Saudi Arabia and Russia alone accounted for about a third of that. At 2019’s average import price, their Chinese sales amounted to almost US$80 billion; it’s a tempting target for President Xi Jinping’s currency ambitions.
China has sought for over a decade to encourage international use of the yuan, with varying degrees of enthusiasm, hoping to bring the currency’s role in international trade and investment into line with the economy’s clout. For a number of reasons, including capital controls, that has faltered. China accounts for roughly a fifth of global GDP, but the yuan accounted for barely 1% of international payments as of January, according to the SWIFT international payments system. This gambit wouldn’t fix that. Nor, despite China’s inroads elsewhere, would it mark the end of dollar preeminence in commodities trading, especially in oil, where the greenback has dominated since the 1970s. China is also more fragile financially than it was before its quarantine efforts.
Russia’s falling out with the Organization of Petroleum Exporting Countries, at a time when a global coronavirus pandemic is wreaking havoc with the global economy, could still lay the ground for a historic shift. All the more so as the rift among producers persists and deepens, and global demand heads for a record annual drop. The supply glut ahead looks immense.
A market awash with unwanted oil leaves producers vulnerable. It’s a damaging race to the bottom, as my colleague David Fickling has written. Saudi Aramco is already suffering.
Yet there are other circumstances conspiring to Beijing’s benefit.
The first is that in a grim landscape of evaporating global demand, China’s economy looks likely to revive before others, as it restarts factories and construction after a national shutdown that’s just beginning elsewhere in the world.
Then there’s the steady rise of Shanghai’s yuan-denominated oil contract, launched in March 2018. As of late last year, the contract accounted for more than 14% of oil trade on major exchanges, according to Bloomberg Intelligence. That’s not yet threatening the West Texas Intermediate and Brent benchmarks, and the figure may be inflated by the nature of China’s retail-heavy market,but it’s certainly nibbling at the edges.
The geopolitical timing is also right. Saudi Arabia has found U.S. support to be less reliable and vocal than in the past. China is already its largest trading partner, and holding yuan, difficult in general because of capital restrictions, is also less awkward for a kingdom building infrastructure with plenty of Chinese contractors, and with an appetite for the country’s technology.
Russia also needs friends, and has already been moving away from the dollar, making it perhaps the more eager of the two. President Vladimir Putin’s aggressive moves to further Moscow’s interests have caused blowback and triggered rounds of U.S. sanctions, including on subsidiaries of the country’s largest oil producer, Rosneft PJSC. Moscow has already been putting more of its currency reserves in yuan, and taking some payments in the currency, too.
China will tread carefully once Russian and Saudi spigots open. Beijing is keenly aware that a crashing oil price will hit producers like Angola, which estimated prices at US$55 in its 2020 budget, and could concentrate output among the biggest exporters. China prioritizes diversity of supply, and drilling at home becomes harder when prices crumble. It also has to manage Washington’s expectations, given it had promised to ramp up purchases of U.S. energy products — a US$52 billion commitment over two years that now looks even harder to sustain.
That doesn’t mean it pass up the opportunity that has presented itself. China might turn to currency swaps rather than oil arm-twisting. Yet Beijing is expected to add to its strategic reserve. Extending that opportunism to paying in yuan for (at least a little more of) the oil that Russia and Saudi will soon be swimming in is only logical.
