The Role of the Petroyuan in Strengthening the China/Saudi Arabia Axis

The beginning of trade relations between China and Saudi Arabia marks a significant chapter in the history of international relations between Asia and the Middle East. Both countries, characterized by millennia of history and rich cultural traditions, have viewed economic and trade relations as a means to strengthen their global economic and political influence.

The trade relations between China and Saudi Arabia date back to ancient times, during the era of ancient trade routes such as the Silk Road. China, with its ancient civilization and productive capacity, and Saudi Arabia, strategically located to connect Asia, Africa, and Europe, have historically been linked by exchanges of goods and cultures. However, in the 20th century, relations between the two countries cooled due to global geopolitical dynamics, especially during the Cold War. Saudi Arabia, with its close ties to the United States and other Western countries, found itself on one side of the global political landscape, while China, under the communist regime of Mao Zedong, was on the opposite side.

A turning point in Sino-Saudi relations occurred in the 1990s when China began to open its economy to the global market, and Saudi Arabia sought to diversify its trade partners beyond the United States and European countries. The year 1990 marked a turning point when China and Saudi Arabia officially established diplomatic relations, paving the way for a new era of economic and trade cooperation.

Since then, trade between the two countries has seen exponential growth. China, with its rapid industrialization and increasing energy needs, viewed Saudi Arabia, the largest oil exporter in the world, as a natural partner.?At the same time, Saudi Arabia recognized the opportunity to diversify its economy, attracted by China’s manufacturing and technological capabilities.

Today, as shown in the image below referring to 2022 data, the Asian giant represents the top destination for Saudi exports, with a trade volume of 68 billion dollars, equivalent to 18.8%, followed by India (12.8%) and Japan (10.1%).

Credits: The Observatory of Economic Complexity (OEC)

Indeed, Saudi Arabia has become the flag bearer of China’s trade trends with the Arab region, where trade has more than tripled from 2009 to 2023.

The initiation of oil trade between the two countries based on the yuan dates back to President Xi’s first visit in January 2016, materializing in 2018 with the Shanghai International Energy Exchange and the first futures contracts.?

Most oil exporters engaging in trade with China highlight greater positive balances when transactions are conducted in yuan, yet they would incur foreign exchange risk since Gulf exporters’ currencies are pegged to the US dollar, which has strengthened against the renminbi in recent years.

Credits: Tradingview

So, why might the renminbi, or more specifically the petroyuan, become the fundamental pivot in strengthening trade relations between China and Saudi Arabia (expandable to all Gulf countries)?

The motivations are varied, but all extend beyond the purely economic aspect, touching upon strategic themes.

In August 2023, during the BRICS summit, some founding members expressed the desire to increase local currency transactions among member countries; meanwhile, some Gulf states, including Saudi Arabia, are exploring ways to conduct relations anchored to currencies other than the dollar, aiming to expand their economic diplomacy and influence.

Further support for the increased use of the yuan can be seen in Saudi Arabia’s openness (alongside Iran, Ethiopia, Egypt, Argentina, and the United Arab Emirates) to join the BRICS, an invitation that has not yet been formalized, but which could enhance relations, assisted by the new branch of the Bank of China in Riyadh, the Saudi capital.

The willingness of Saudi Arabia to increase oil sales in Chinese currency has yet to materialize; however, the vision is long-term and requires time for implementation.

Recent reports indicate a cautious attitude from the Saudi Treasury regarding the prospect of being inundated with renminbi beyond what they could spend, considering that this would increase risks (of exchange) and the obligation to spend in Chinese goods and services.

On the other hand, there lies an opportunity to invest yuan flows into infrastructure-related projects, thanks to established relationships with state-owned enterprises such as China State Construction and Metallurgical Corporation of China. For example, the construction of all necessary facilities for the 2029 Winter Asian Games, the 2030 Expo, and the 2034 FIFA World Cup.

Additionally, to reap the benefits of Vision 2030 (the Saudi government plan launched in 2016 aimed at transforming the country through economic diversification, making it less dependent on the oil sector), petroyuan could be invested for the benefit of industrial sectors and renewable energy.?

Some partnerships have already been established, recognizable in joint ventures among Baoshan Iron and Steel (50%), the Public Investment Fund (PIF) (25%), and Aramco (25%) for the construction of a low-environmental-impact facility located in Saudi Arabia that will produce steel sheets.

Another point in favor is that the petroyuan flows obtained by Saudi Arabia could be funneled back into the Chinese economy through investments in companies and/or increasing Aramco’s downstream presence in China.

In conclusion, the use of the yuan in oil trade and the Sino-Saudi axis, although already underway, represents a long-term project that, barring changes, will strengthen regional and global strategic balance.