What China needs to do to gain pricing power on commodities

July 03, 2015 18:41
China is expected to gain pricing power on commodities from renminbi internationalization. Photo: Bloomberg

China has taken strides in promoting its currency for greater global acceptance.

It has set up five offshore yuan centers, launched Shanghai-Hong Kong Stock Connect and widened the trading band of offshore renminbi.

The rise of the Chinese currency in global markets may promote trading of yuan-denominated commodities and increase China’s pricing power.

China is the largest importer and consumer of commodities including iron ore, copper ore and bauxite.

Even so, it is unable to set the terms for commodity prices because these are still denominated in dollars.

International commodity trading uses mostly overseas exchanges for benchmarks and transactions are settled in dollars.

Base-metal trading on the London Metal Exchange (LME), for example, accounts for more than 80 percent of global volume, overwhelming the Shanghai Futures Exchange.

LME’s approved warehouses have the largest number of locations and are the best indicators of global supply and demand for metals.

Settlement prices on the LME are also used as benchmarks for most physical trading of metals.

Before China can attain pricing power, it will first have to address trading and delivery constraints.

The government restricts metal producers’ access to trade on the LME, which has no warehouses in China.

Overseas investors can’t trade on the SHFE, which has no inventory storage outside of China.

Even though Hong Kong Exchanges and Clearing bought the LME in 2012, full integration has yet to materialize.

The views expressed in this article are those of Yi Zhu, an analyst at Bloomberg Intelligence.

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