The U.S. dollar has been the world's undisputed international currency of choice for years. However, Chinese officials have begun touting the yuan as the global economy's future reserve currency. To learn more about this development and the possible ramifications, Global Trade Advisor interviewed Irene Cheung, RBS trading analyst, Asia Local Markets Trading, Singapore.

How did the U.S. dollar (USD) become the world's dominant reserve currency?

Cheung: The key reason is that the United States is the world's largest economy, accounting for close to one-quarter of global gross domestic product (GDP). U.S. financial markets are also the world's largest with the deepest stock and bond markets, allowing them to attract foreign reserve investments from other countries' central banks.

To be a world reserve currency, an important characteristic is a stable value. In other words, preservation of value is a key requirement, which also means that the country of that reserve currency is expected to pursue sound monetary and fiscal policies to ensure a steady exchange rate. Hence, that country should have a high sovereign credit rating.

How have U.S. exporters and importers benefited from the U.S. dollar's status as a world reserve currency?

Cheung: The USD has become the default currency for international trade settlement. U.S. exporters and importers have enjoyed the convenience of conducting business in their home currency with no foreign exchange risk. Also, having the world's reserve currency, U.S. companies can easily raise funds in all parts of the world at a relatively low cost due to the demand for USD-denominated assets.

What do you make of the reports that China would like to see the yuan become a world reserve currency?

Cheung: There are indications that China would like to be more involved in the international monetary system. This is a natural development as China becomes an increasingly important economic power. Already, China will soon overtake Germany to be the third largest economy in the world, after the United States and Japan.

Currently, apart from the USD, central banks around the world also hold the euro (EUR), yen (JPY) and G10 currencies in their reserves. Hence it follows that with China becoming an important economic power, the role of the yuan should also expand.

And this is occurring. China has recently set up foreign exchange swap agreements in yuan with countries including Korea, Indonesia, Argentina and Hong Kong, totaling some $100 billion (USD). There are also plans to start some form of a yuan clearing center in Hong Kong, and China and Brazil are planning to conduct bilateral trade in their own national currencies.

What changes would be required in order for the yuan to become a world reserve currency?

Cheung: The yuan was de-pegged from the USD in July 2005. Since then, the currency has been managed mostly in terms of its exchange rate in relation to the USD, though officially a trade-weighted basket is also used as a policy reference.

To become a world reserve currency, one key prerequisite is that the currency needs to be convertible in both the current and capital accounts. In other words, the currency needs to be fully convertible, which is the case for reserve currencies such as the USD, EUR and JPY, but not for the yuan. The yuan is mostly convertible in the current account, but there are restrictions on some capital flows.

How has the global financial crisis impacted China's aspirations for the yuan?

Cheung: It is to be expected that the yuan will play a bigger role in the international monetary system. That said, recent events have brought the issue to a head. The global crisis, with the United States at the epicenter, has caused unprecedented volatility in global financial markets, particularly the U.S. markets. The USD has also been volatile, causing much concern for China, which is the largest investor in U.S. Treasuries with holdings exceeding $700 billion.

How would the yuan as a world reserve currency benefit China and its trade efforts?

Cheung: If Chinese exporters and importers could conduct their external trade in the yuan, it would eliminate or reduce their exchange rate risk and they would have no need to hedge their currency risks. The benefit is particularly obvious if the USD remains volatile. From the perspective of foreign reserve management, USD depreciation would have a significant negative impact on the value of China's reserves.

How would this potential development impact the U.S. economy and U.S. companies that export and import?

Cheung: First, there would potentially be less demand for USD-denominated assets. Second, the U.S. current account deficit would narrow as capital inflows slow. In other words, the U.S. savings rate could be under pressure to normalize. Third, if the global demand for USD assets does decline, U.S. companies might need to pay higher financing rates.

What is the likelihood of the yuan becoming a world reserve currency? And, if so, how soon could it happen?

Cheung: It is too early to say if this will materialize. One observation is that despite the advent of the EUR, the USD has remained the predominant reserve currency. At any rate, this is a long process that would take more than a couple of years to unfold, and the yuan first needs to become fully convertible.

How can our readers continue to monitor the role of the yuan?

Cheung: There are a few things to watch in the international monetary system. One is potential changes in the International Monetary Fund (IMF) and whether China will play a bigger role in the IMF. Another is possible changes in the Special Drawing Rights of the IMF, in terms of currency composition, etc. On China itself, the key item is the country's progress in making the yuan fully convertible. Lastly, watch for an expanded role of the yuan in bilateral trade arrangements.

Companies engaged in international commerce need to take customs and trade compliance more seriously in this post-9/11 era of increasing regulations, stepped-up enforcement and steeper penalties, cautions one industry expert.

Recent trade regulation developments are sending a couple of clear signals, says Robert Stein, director of customs and trade compliance for Mohawk Global Logistics, a full-service international and domestic logistics provider. "One is that companies are expected to know their supply chains,'" Stein says. "The other is that companies should focus less on the cost of compliance and more on the cost of noncompliance."

Below are some recent regulatory developments that illustrate the importance of these messages.

Importer Security Filing program

The Importer Security Filing (ISF) program, also known as
"10 + 2," is designed to help U.S. Customs and Border Protection ("Customs") capture detailed information about shipments before they are loaded on vessels bound for the United States. The program has been in place since January 26, 2009, but enforcement won't begin until January 26, 2010.

Under the ISF program, at least 24 hours prior to vessel loading, U.S. importers must transmit detailed information to Customs about any shipment bound for them.

Filings must be timely. Beginning next January 26, Customs won't allow ships to load unless the ISF filing beats the 24-hour deadline.

In addition, information in the filing — such as the goods' Customs classification, country of origin, manufacturer, etc. — must be accurate. Inaccurate filings will subject importers to a $5,000 penalty per violation. "However, Customs has said it will base penalties on how hard it perceives an importer has worked to be compliant," Stein notes. "Having a good track record might mitigate the penalty."

Customs has been issuing progress reports to importers that have initiated 10 + 2 filings. "These reports can help importers work with their export partners to improve filing timeliness and accuracy, as well as provide a record to show Customs they have been making a good faith compliance effort," Stein says.

As a result, importers are wise to begin ISF filings as soon as possible this year, he says.

Lacey Act amendments

With the enactment of the 2008 Farm Bill, the Lacey Act was amended to require an import declaration for certain plants and plant products. Importers of these products must file a declaration that contains information such as the plant's scientific name, the value of the importation, its quantity and the name of the country from which the plant was taken.

The declaration requirements are being phased in. The current second phase, which runs through September 30, 2009, adds certain wood products (e.g., sheets for veneering, tools and tool handles) to the list of products that importers must declare.

Phase 3 beginning in October 2009 will require declarations for certain wood pulp products, and phase 4 beginning in April 2010 will require declarations for various paper products and furniture.

Importers must research the required information, complete a paper declaration form they can access at the Animal and Plant Health Inspection Service (APHIS) Web site, and then submit the form to their customs broker, who files the declaration electronically.

Amendment violators are subject to commercial civil penalties of $10,000 per violation and individual civil fines of $250. Criminal penalties are much more severe, with misdemeanors triggering penalties for individuals of $100,000 and up to a year in prison, and $200,000 for organizations. Meanwhile, felony convictions incur penalties for individuals of $250,000 and up to five years in prison, and $500,000 for organizations.

Increased penalties for export violations

Exporters too must focus on compliance. One reason is that recent federal legislation has increased penalties for violations of U.S. sanctions and dual-use export control regulations. The latter were designed to control the export of goods that can be used for secondary purposes such as weapons production.

In October 2008, civil penalties rose to $250,000 per violation (or twice the value of the transaction) from $50,000. Criminal penalties increased to $1 million per transaction and up to 20 years in prison for a "knowing and willing violation."

Improve your compliance efforts

Not only are regulations multiplying and penalties escalating, but the government is using technology as a tool to enforce the rules more aggressively, Stein says.

So how should companies that source and/or sell products overseas respond? Stein, a licensed customs broker and certified customs specialist, offers this advice:

• Don't procrastinate. For example, take advantage of grace periods such as the one Customs is offering for ISF filing and prepare early for Lacey Act amendment declaration requirements.
   
• Engage experts to conduct spot compliance audits. There are consultants, customs brokers and attorneys that can help companies gauge their level of compliance. Often, companies fall short in such routine matters as record-keeping, valuations, NAFTA violations, misclassification of goods and improper declaration of country of origin.
   
• Invest in in-house programs and expertise. Now that all import and export filings must be done electronically, the federal government's ability to mine and monitor data has improved dramatically.
   
• Utilize online resources. The Bureau of Industry and Security (BIS) offers an Export Management & Compliance Program Self-Assessment Tool. The Customs and Border Protection Web site is a great source for compliance information and provides a model internal control manual. You can also visit the sites of customs brokers and attorneys.
   
• Look to a trade services bank like RBS for compliance counsel and references to industry professionals who may be able to help.