The yuan will be used in transactions with neighboring trade partners as part of a pilot project - in what could be the first step on the road to making it an international currency.
The yuan will be allowed to be used for settlement between the Pearl and Yangtze river delta regions and the special administrative regions of Hong Kong and Macao, the State Council, or the Cabinet, said in a statement yesterday.
The Guangxi Zhuang autonomous region and Yunnan province will be allowed to use the yuan to settle trade payments with ASEAN (Association of Southeast Asian Nations) members.
The pilot program was announced with a raft of other measures designed to help bolster the nation's export sector. The State Council did not give details of how and when the currency project would start.
"The move will mitigate the risk of exchange rate fluctuations for Chinese exporters and their trade partners," said Zhao Xijun, finance professor at Renmin University of China.
The lion's share of China's foreign trade is currently settled in US dollars or the euro. But many analysts predict the greenback might depreciate substantially in the coming years because of the ailing US economy.
Earlier this month, Zhou Xiaochuan, governor of the central bank, said in Hong Kong that settlements using the US dollar would cause problems if the dollar's value fluctuates drastically.
The mainland's trade with Hong Kong, Macao and ASEAN nations has been rising rapidly over the past years to reach $402.7 billion last year, or 20 percent of the mainland's total trade volume.
"The move will also increase the yuan's acceptance in Asia, which will help it become an international currency in the long run," said Zhao.
The yuan's acceptance has been rising in recent years, thanks to the nation's economic prowess and its $1.9 trillion reserves of foreign exchange. Over the past year, there has been a growing advocacy at home to make the yuan a global currency, since the weakening of the greenback has caused hefty losses to China's forex reserves.
But the government has been cautious about moving in that direction, which would also require the yuan to be freely convertible. Analysts say it will take time for policymakers to make the shift as they try to maintain the stability of the currency regime.
The government has made a series of moves in recent months to expand the use of the yuan beyond its borders, which some say would benefit its slowing export sector.
The mainland signed a currency swap deal with Hong Kong on Nov 20. Earlier this year, the government also gave the go-ahead to let Chinese banks issue yuan-denominated bonds in Hong Kong.