Is oil being priced in yuan now?

Large volumes of internationally traded crude are now being priced, invoiced and settled only in Chinese yuan. As of 16 June, that had not happened on this scale since Washington and Riyadh struck their petrodollar agreement in 1974.

How the petroyuan works

Two things built it. Tehran insists that its transit tolls be paid in renminbi, and Persian Gulf producers have signed direct bilateral supply contracts with Chinese state refiners. The result is a working system for clearing oil trades without dollars. Independent Chinese "teapot" refiners and South-East Asian traders are clearing millions of barrels a day through the Shanghai International Energy Exchange and settling directly through the Cross-Border Interbank Payment System (CIPS).

Both pieces of plumbing were built years before the crisis. The Shanghai exchange launched its yuan-denominated crude futures contract in March 2018, and CIPS began operating in 2015 as China's alternative to the correspondent-banking channels that carry most dollar payments. For most of their lives they have been marginal. What the Hormuz crisis supplied was a reason to use them at scale: a toll that must be paid in renminbi and a set of buyers who would rather not touch American banks.

The arrangement it is chipping away at was itself a product of crisis. After the dollar's link to gold was cut in 1971 and the Arab embargo of 1973 quadrupled oil prices, Washington and Riyadh agreed that Saudi oil would be sold in dollars and that the kingdom's surpluses would be invested in American government debt, with American security guarantees in the background. Other producers followed the Saudi lead, and dollar pricing became the industry's default.

Where the yuan goes next

Settlement is the easy part. The harder question is what a Gulf producer does with the yuan it receives. Under the old arrangement, oil exporters earned dollars and recycled their surpluses into Treasury bonds, American equities and dollar bank deposits, which helped finance the American current-account deficit. Yuan receipts cannot be recycled so freely, because China still controls movements of capital across its borders and its bond market is less open to foreign official investors.

In practice sellers have three options. They can spend the yuan on Chinese goods and services, from machinery to construction contracts, which ties their import bills more closely to China. They can hold Chinese government bonds, which are liquid by emerging-market standards but carry political and convertibility risks. Or they can swap the yuan back into dollars through the People's Bank of China's swap lines and the offshore market, which dilutes the point of settling in yuan in the first place.

The dollar loses some ground

The dollar is still the main benchmark for pricing oil. Even so, moving physical settlement into yuan will be hard to reverse. It lets sanctioned producers bypass Western clearing houses altogether, which blunts America's financial sanctions. Those sanctions work because nearly every dollar payment eventually passes through an American bank, which can be ordered to freeze it. A trade that never touches a dollar account is beyond that reach.

Pricing and settlement are different things, and the distinction matters here. Many of the new contracts still reference dollar benchmarks such as Brent and simply convert the invoice into yuan at the day's exchange rate. That leaves the dollar as the unit of account while removing it as the means of payment. The currency risk moves too: a Gulf seller paid in yuan now carries exposure to the renminbi's exchange rate against the dollar, which Beijing manages rather than leaves to the market.

The gains and losses are easy to map. Chinese refiners secure crude outside the reach of Western sanctions and often at a discount, and Chinese banks earn the clearing business that used to go to New York. American and European banks lose fees, and the American government loses visibility over who is paying whom for what.

The sanctions point is the one that should worry Washington most. Financial sanctions have become the American government's weapon of first resort against Iran, Russia and others, precisely because they are cheap to impose and hard to evade. Every barrel that settles outside the dollar system makes them a little less effective, and the countries most eager to build alternatives are the ones sanctions are aimed at.

The limits of the petroyuan

The case against a rapid shift is strong. The dollar's dominance rests on more than oil: it is the main currency for trade invoicing in much of the world, the funding currency for global banks and the asset that central banks still hold for well over half of their foreign-exchange reserves. The yuan accounts for only a small fraction of those reserves. Network effects are powerful, because firms invoice in dollars largely because everyone else does, and the costs of switching fall mainly on the first movers.

China's own policies are the other constraint. A currency cannot become a large reserve asset without deep, open financial markets and free convertibility, and Beijing has shown no sign of giving up its capital controls. Oil producers may accept yuan for trade with China, but they are unlikely to hold large savings in an asset they cannot move quickly in a crisis.

What the precedent says

The dollar's own rise offers a benchmark. It overtook sterling as the main reserve currency over several decades in the first half of the twentieth century, even though America's economy had become larger than Britain's well before then. Reserve status changes slowly and then in steps, usually after a shock that forces users to reconsider their habits. The Hormuz crisis is that kind of shock for the oil trade, though a single war is not enough to overturn a system built over half a century.

Signals worth watching

The indicators are public. SWIFT's monthly tracker of currency shares in international payments will show whether the yuan's share rises beyond the Gulf trade. Open interest in the Shanghai crude contract will show whether yuan pricing is becoming a benchmark rather than a settlement convenience. The Treasury's data on foreign holdings of American government debt will show whether Gulf producers are buying fewer Treasuries.

The petrodollar still dominates, but it no longer has the market to itself, and if yuan settlement keeps growing, world demand for dollar reserves will probably weaken over the coming years. The first place to feel it will be the Treasury market, where fewer recycled oil dollars mean one less reliable buyer at a time when Washington needs to borrow more.