Pacific Money | Economy | East Asia

The Yuan’s Quiet Advance on Commodity Pricing

A miner paid in yuan has a reason to borrow in yuan, and a miner indebted in yuan has a reason to price in it.

In April, BHP ended a seven-month standoff with its largest customer. China Mineral Resources Group, the state-backed entity that consolidates iron ore purchases for Chinese steel mills, had partially shut the Australian miner out of China since September.

As the price of readmission, Chinese media reported, BHP agreed to rewrite the pricing formula for Jimblebar fines, a product line that accounts for roughly a quarter of its output from the Pilbara region of Western Australia. For the first time, a yuan-denominated Chinese port index will anchor 51 percent of the formula, with the traditional S&P Global Platts benchmark removed entirely. The contract may still convert that reference price into dollars, but the shift is significant; Beijing has inserted its own benchmark into the machinery of global commodity pricing.

No major iron ore producer had previously allowed a yuan-denominated Chinese benchmark to anchor most of a long-term pricing formula. In that regard, the deal may matter more for China’s currency ambitions than the payments statistics that usually frame the debate.

Discussion of yuan internationalization tends to fixate on settlement: that is, on the payment shares, SWIFT volumes, and the tally of swap lines. By those measures, progress looks underwhelming. In recent months, the yuan’s share of SWIFT payments has hovered around 3 percent, though partly because more yuan traffic now routes through China’s own clearing system.

Settlement, however, is the most visible and least durable of currency’s functions. A trading partner that settles in yuan this year can revert to dollars the next. Pricing is different. Once a benchmark is embedded in long-term contracts, hedging chains, and corporate accounting, it calcifies. Oil has been priced in dollars since the 1970s, outlasting every prediction of the petrodollar’s demise and a turnover of major buyers and sellers.

Pricing also unlocks settlement. So long as a cargo is priced in dollars, a seller accepting yuan takes on currency risk between invoice and conversion. Price the cargo in yuan, and this mismatch disappears, along with a major commercial disincentive. The big four iron ore majors have settled occasional cargoes in yuan since 2017, but with contracts still priced off dollar indexes, the experiments stayed experiments. The barrier sat in the pricing formula, not the payment rails.

Beijing has internalized the lesson and is applying leverage where it has some. China buys roughly three-quarters of seaborne iron ore and accounts for about half the world’s base metals........

© The Diplomat