Move helps banks dilute concentrated dollar and euro portfolio, experts say

With the global prominence of yuan amid the devaluation of African currencies against the dollar, the continent could consider increasing yuan in their basket of reserve currencies for diversification purposes, observers say.

Li Xiuzhu, head of Global Markets China, corporate and investment banking at the Standard Bank, said such a move would help central banks in the continent to dilute a heavily concentrated U.S. dollar, euro, and British pound sterling portfolio.

According to the International Monetary Fund, sub-Saharan Africa experienced a currency depreciation of 8 percent against the U.S. dollar in 2022, with Ghana's cedi and Sierra Leone's leone depreciating by more than 45 percent.

The currency depreciation is frustrating efforts by African countries to curb inflation given that the region depends on imports with a significant share of them invoiced in the U.S. dollar.

Li said increasing yuan in their reserves would enhance and consolidate the continent's trade ties with China by providing transactional, trade and financing solutions.

"Many Africa-based importers who are now able to accept and pay against a yuan invoice have expanded their exposure to a wider network of Chinese suppliers, consequently elevating trade activities," he said.

Li said having the capability to deal in yuan would elevate trade, as it would open new business and trading relations between importers and exporters.

Currently, China is Africa's largest trade partner. Trade between China and Africa hit $282 billion in 2022, an 11 percent year-on-year increase, according to the Chinese customs authorities.

Between January and April 2023, the figure reached $94.4 billion, an 8.9 percent increase compared to the same period last year.

By increasing yuan in their reserves, Li said African countries with extensive ties to China could hedge potential supply-side risks by establishing the required infrastructure and enhancing yuan clearing capabilities.

This, he said, would help in case any country experiences financial sanctions from the West as it happened to Russia.

Meanwhile, Li noted there has been an increasing uptake in using yuan across African markets, predominantly driven by private sector business incentives, facilitated by commercial financial institutions. Notably, Nigeria and South Africa have had swap agreements with China.

In response to the devaluation of African currencies against the U.S. dollar, some countries have proposed a single currency in the continent, an idea Li said is bold and very risky.

'Mammoth task'

"I believe it is a mammoth of a task to create a monetary union in Africa like that of the European Union," he said.

Li said almost 24 years after the EU was established, its intention was not successfully achieved with failed economies like Greece that almost destroyed the union in 2008.

Unlike Europe, goods with value additions in African countries are minimal mainly due to the relatively underdeveloped manufacturing capabilities on the continent, he said.

Li is of the view that African countries should trade a lot more with each other as well as ensure the countries have settlement capabilities within each other to allow exchanges of their currencies.

This will ensure the continent is interlinked, after which the one currency will make sense.

He said the Common Monetary Area, or CMA, for instance, in Africa can sustain itself due to its reliance on a dominant economic power in a region like South Africa. Established in 1974, the CMA is a monetary union that includes South Africa, Namibia, Lesotho and Eswatini.

While each country issues its own currency, all four currencies are governed by the South African Reserve Bank and are valued and exchanged at par with the South African rand.

Li commended ongoing developments to promote intra-Africa trade in the continent like the Pan-African Payment and Settlement System.

Launched in January 2022, the settlement system is a cross-border, financial market infrastructure enabling payment transactions across Africa.

It allows companies in Africa to pay for intra-African trade transactions in their local currency. Currently, Africa has approximately 42 individual currencies.