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The International Monetary Fund (IMF) just issued a warning to countries converting their dollar loans from China into yuan.
The organization warns risks may arise as nations such as Kenya and Ethiopia swap their US dollar-denominated loans for yuan to reduce debt costs, reports Bloomberg.
The IMF says that while switching currencies is a proactive approach to debt management, it is crucial that countries ensure the strategy will not create new vulnerabilities.
A spokesperson from the financial institution says that despite lowering costs, these transactions can introduce currency risks depending on their structure.
“The IMF encourages countries to consider such operations within comprehensive medium-term debt and reserve management strategies to ensure an appropriate balance between cost and risk.”
Yuan-denominated sovereign and corporate bonds sold at 2.4% this year, or about half the rate on dollar-denominated debt and countries are taking advantage of the difference.
Kenya saved $215 million in annual costs after converting its Chinese railway loans into yuan. Ethiopia is also in talks to convert some of the $5.38 billion of its Chinese debt into yuan.
Meanwhile, Sri Lanka wants the yuan equivalent of $500 million for a highway project that was supposed to be financed in dollars and Hungary has issued Panda bonds of 5 billion yuan.
According to Deepak Dave, director at the Johannesburg-based investment firm Autonomi Capital, yuan loans will force nations to diversify a portion of their national reserves to the Chinese currency.
He says that this could be a problem for small economies that do not export multiple currencies as the US dollar is still the de facto currency for global trade.
