Editor's note: Wang Dan is the chief economist at Hang Seng Bank China. The article reflects the author's opinions and not necessarily the views of CGTN.

The U.S. ultra-loose monetary policy has hurt its currency credit. At the beginning of the pandemic, such a policy response was justified. After COVID-19 went global in early 2020, there was a scramble for the dollar, causing a surge in its valuation. In response, the Federal Reserve promised an infinite supply of the dollar, mostly through quantitative easing, to stabilize its value. 

As time went by, the ultra-easy monetary policy started to seem problematic because the market expected that in the mid-to-long term, the dollar would stay weak. The Fed also seems not in a hurry to raise interest rates any time soon even if the inflation is rising. As a result, the dollar has been losing value to all prominent currencies since the pandemic, including the euro, yen, pound and yuan, while capital rushed into the U.S. stock market, pushing its valuation to an all-time high. Risks are accumulating within the financial system.

The key to being a global currency is the ability to maintain a stable value, particularly during an economic crisis. Yet the present market expectation is a weak dollar in the mid-to-long term. This is partly due to the ultra-loose monetary policy in the U.S., and partly because of the global economic recovery. When the world is in a crisis mode, people tend to hold dollars as they are considered safe assets. When the recovery begins, however, the return from holding extra dollar-denominated assets diminishes as the expected return diminishes. Global investors will thus start to look for better deals elsewhere, including emerging markets.

The dollar's decline started even before the pandemic. Market confidence in the dollar was shaken significantly by the 2008 financial crisis. Afterward, the Fed had kept the interest rate artificially low for an extended period to pump up the economy, which has eroded the appeal of dollars. Another reason for the dollar's fall is the U.S.'s increasingly aggressive use of financial sanctions. These sanctions not only affect countries of the target, like Russia and China, but also other parts of the world where people wish to do business as usual. In this dollar-central financial system, all countries are vulnerable. Every country may get into a dispute with the U.S. at some point. The Biden administration is more predictable than the Trump administration, but there is no guarantee that the U.S. won't have a Trump-like figure again in the future. Given how frequent the U.S. is relying on financial sanctions as a weapon, it is no surprise that countries wish to diversify away from dollar reserves.

In contrast, the Chinese yuan's share in the global reserve has increased significantly since the pandemic. The momentum shows no signs of slowing down. One reason is the strong rise of China's digital platforms, particularly Alipay and WeChat. They have globalized a lot faster than conventional banks and have become critical players in consumer finance around the world. To attract Chinese tourists, many more businesses in Asia, Europe and even in the U.S. are accepting online payment through Chinese apps. China's central bank is another important driving force. The central bank digital currency is picking up pace in rollout within China. Though it's still a long way away before becoming a means for international transactions, this will provide the necessary infrastructure for cross-border transactions in yuan in the future.

Despite rapid growth, the Chinese yuan's global payments remain small, currently at around 2.5 percent, compared to 20 percent of the euro and 59 percent of the dollar. The Chinese government has proven its ability to restore growth and keep its currency stable after COVID-19. The next step would be to make the yuan more convertible by gradually opening the capital account. China has already launched Bond Connect to allow foreigners to invest in onshore bonds through Hong Kong and allowed international credit-rating agencies to operate in the Chinese mainland. 

In international financial contracts, Chinese companies have stepped up efforts to negotiate terms in yuan for more projects. Yet most Belt and Road projects are still financed by dollar loans. It has become a more urgent need to expand the usage of the yuan before the U.S. imposes more restrictions on China's dollar financing.

Being a global currency incurs both costs and benefits. Higher demand for the yuan will inevitably drive up its value relative to others, which will hurt domestic exporters and motivate more companies to set up factories overseas. China's productivity growth is already faster than that of the U.S., which exerts additional pressure for the yuan's real appreciation. A silver lining is that a more flexible yuan will grant more room for monetary policy at home. 

Previously China's central bank needed to be concerned about both the domestic economy and the stability of the exchange rate market, which has limited the scope of policy effect. In the end, currency supremacy is up to a country's economic clout and financial innovation capacity. In those two regards, the tide is on China's side.