What Currency Should I Use in My China Contract?
As lawyers, we spend a lot of time fielding good, bad, weird, interesting, deep, superficial, and all types of other questions from people. We’re generally expected to be oracle-level wizards, a lot like people are treating AI now. In this series, we’ll share some of these questions that people ask us, along with our answers.
1. Quick Question and Answer.
Quick Question. We started working with some new Chinese suppliers. One wants to be paid in US dollars (USD), and the other wants to be paid in Chinese yuan (CNY) or renminbi (RMB). We don’t really have much expertise in this area. Can you share some information about how to make this decision?
Quick Answer. When deciding whether to pay your Chinese suppliers in US dollars (USD) or Chinese yuan (CNY), you should consider factors such as currency stability, transaction costs, exchange rate risks, supplier preferences, and your preferences. Paying in USD may offer stability, lower your currency risk, and help your CFO sleep better at night, while paying in CNY could reduce costs, improve relationships with suppliers, and help your CFO sleep better at night. You should evaluate your company’s financial strategy (with your CFO) and consult with currency exchange experts to make an informed decision.
2. Currency Stability and Risk.
USD is a globally recognized and stable currency, minimizing the risk of significant value fluctuations during transactions. In contrast, CNY can be more volatile, particularly with ongoing geopolitical tensions. If your company prefers predictable financial planning, paying in USD might be safer. This is especially true if you receive most of your payments in USD. However, if you are willing to accept some currency risk for potential savings, CNY could be a good option. Much of this decision centers around your ability to predict the future. Or you can engage a foreign currency exchange expert to help hedge against a rising CNY relative to USD.
3. Transaction Costs and Fees.
Paying in USD often involves fewer transaction fees because it is a widely used international currency, which could mean lower banking fees and easier transfers. On the other hand, paying in CNY might incur higher fees due to currency conversion and additional processing costs if your bank does not have direct handling capabilities for CNY. Typically, banks charge more for currency conversions than businesses that specialize in foreign exchange (ForEx) transactions. Both generally have superior forecasting abilities than you do.
4. Exchange Rate Risk.
Paying in CNY means your company assumes the exchange rate risk, that of converting your USD to CNY to pay your China counterpart. If the CNY strengthens against the USD, you could end up paying more. Conversely, paying in USD transfers this risk to the supplier, who will probably add a premium to their price to cover potential losses due to currency fluctuations. Many supply contracts factor in potential input cost increases, but far fewer contemplate exchange rate risk.
5. Supplier Relationships.
Suppliers who prefer CNY payments may offer better terms or discounts because they avoid conversion fees and currency fluctuation risks. Paying in the supplier’s preferred currency can foster goodwill and strengthen business relationships, potentially leading to more favorable terms or priority service. Sometimes suppliers want to be paid in USD to an account outside of China. This is not necessarily a red flag, but if they want to be paid to an account outside of China to another entity that you did not directly contract with, then that is a red flag.
6. Financial Strategy and Hedging.
If your company is exposed to multiple currencies, you may already have a currency hedging strategy. Paying in CNY could complement a diversified currency strategy, helping to balance out your foreign currency exposure. And sticking with USD could simplify financial management if your operations are primarily USD-based.
7. Market Trends and Projections.
Stay informed about economic forecasts and trends. If experts predict a devaluation of CNY or strengthening of USD, it will likely impact your decision. Align your payment strategy with broader economic trends to mitigate risks and capitalize on potential gains. This is especially true with the constant flux between the U.S. and China. And it is an order of magnitude more difficult in a U.S. presidential election year.
Conclusion
Deciding whether to pay your Chinese suppliers in USD or CNY involves weighing the benefits of currency stability, transaction costs, and supplier preferences against the risks of exchange rates and regulatory shifts. You should first understand your company’s financial strategy, foreign currency exposure, and risk tolerance. You should also maintain open communication with your suppliers and your legal team to craft the optimal strategy that your Chinese counterpart will allow. Consulting with financial experts both inside and outside your business will help you make this decision for your specific business context.
For more reading, see:
Understanding the Fundamentals of International Contracts
International Contracts Are Worth Every Dollar You’d Rather Not Pay
Reducing Your Product Liability Risks from Overseas Products
Foreign Direct Investment (FDI) from China: Where Have All the Dollars Gone?
