Last week, in “The PetroYuan Is Born: Gazprom Now Settling All Crude Sales To China In Renminbi,” we discussed the intersection of two critically important themes which have far-reaching geopolitical and economic consequences. The first is the death of petrodollar mercantilism, the USD recycling system that has helped to buttress decades of dollar dominance and the second is the idea of yuan hegemony, a new, post-Bretton Woods world economic order characterized by the ascendancy of China-led supranational institutions.
These themes came together recently when it became apparent that Gazprom has begun settling all crude sales to China in yuan. Here’s a summary of the prevailing dynamics: Western economic sanctions on Russia have pushed domestic oil producers to settle crude exports to China in yuan just as Russian oil is rising as a percentage of total Chinese crude imports. Meanwhile, the collapse in crude prices led to the first net outflow of petrodollars from financial markets in 18 years, and if Goldman's projections prove correct, the net supply of petrodollars could fall by nearly $900 billion over the next three years. All of this comes as China is making a concerted push to settle loans from its newly-created infrastructure funds in renminbi.
Now, it appears Russia and China will de-dollarize natural gas settlements as well.
First, a bit of history is in order.
Last month, Chinese President Xi Jinping visited Moscow, where Gazprom Chief Executive Alexei Miller and China National Petroleum Corp Vice President Wang Dongjin signed a gas export deal which paves the way for 30 bcm/y to China via a new “Western Route.”
(the Altai line)
As a reminder, the two countries ratified a "Holy Grail" gas deal last May for the delivery of up to 38 bcm/y over 30 years via an “Eastern Route.” Also known as the “Power of Siberia” pipeline, the Eastern route was billed as the largest fuel network in the world with a total contract value of around $400 billion.
(mapping the Western and Eastern routes)
(Putin autographs a pipe at the groundbreaking ceremony for the Power of Siberia line)
Once the two pipelines are operational, China will become the largest consumer of Russian natural gas.
Last year, when the countries were still hammering out the details of the Eastern line, we said the following about the implications of Western sanctions on Moscow:
If it was the intent of the West to bring Russia and China together - one a natural resource (if "somewhat" corrupt) superpower and the other a fixed capital / labor output (if "somewhat" capital misallocating and credit bubbleicious) powerhouse - in the process marginalizing the dollar and encouraging Ruble and Renminbi bilateral trade, then things are surely "going according to plan."
If the recent move by Gazprom to settle crude exports to China in yuan wasn't enough to prove how prescient the above cited passage truly was, then consider the following quote from Gazprom yesterday:
"As a sales contract is not signed, then, of course, the currency of payment has not yet been determined. However, the Chinese side and the Russian side are discussing today and are in intricate negotiations on the possibility of paying in yuan and rubles."
In other words, once both routes are up and running, some 68 bcm/y in natural gas exports from Russia to China will be settled in yuan amounting to hundreds of billions in renminbi settled trade over the life of the deals.
Now recall what we said last year about the "new normal" flow of funds...
- Gazprom delivers gas to China.
- China pays Gazprom in Yuan (convertible into Rubles)
- Gazprom funds itself increasingly in Yuan.
- Russia buys Chinese goods and services in Yuan (convertible into Rubles)
...and connect the dots to what Barclays recently said about the long-term benfits to Beijing of funding infrastructure projects (like the Moscow-Kazan High Speed Railway, in which China will invest nearly $6 billion) via China's new Silk Road Fund...
China could benefit in the short, medium and long term from achieving various levels of the targets outlined in YDYL. Medium-term: Raise demand for Chinese capital goods and Chinese products in general, effectively helping China transition to a consumption-driven economy.
Putting this all together, China, via both the settlement of energy exports from Russia in renminbi, and yuan-donminated loans from The Silk Road fund, can effectively create its own, closed-loop yuan recycling system with Russia which should, over time, serve to facilitate China's transition away from a smokestack economy, while helping to relieve industrial overcapacity (note that earlier this month, China Railway Group won a $390 million contract for work on the Moscow-Kazan rail).
This is not conjecture. Rather, all of the above is part of a carefully crafted plan to embed the yuan in global trade and investment just as dollar dominance dies a slow death in the face of declining US hegemony and the resurgence of a multipolar economic and political order.