The Coming Shock To The Global Monetary System

The Coming Shock To The Global Monetary System

A few days ago Jim Rickards published an article in which he argues that the dollar centric global monetary system is about to receive a serious shock. The proximate cause for this is that, according to Rickards, the BRICS group of nations will roll out a new currency in August. BRICS, of course, is Brazil, Russia, India, China, and South Africa, but that's not the end of the story. At least 8 additional nations have made formal applications for membership, including major energy producers Saudi Arabia, Algeria, Bahrain, Indonesia, and the UAE. Call that grouping BRICS+.

This idea has been in the works for some years, but the US overuse of dollar sanctions--piggybacking on the dollar's status as the world's reserve currency for raw geopolitical purposes--has radically accelerated the movement away from the dollar. Obviously, when a system is working to the general satisfaction of most nations, there's little impetus to change it. The final straw appears to have been the launching of a no (or few) holds barred sanctions war on Russia. Many nations realized that if even Russia could be attacked in this manner, they could be next on the American Empire's hit list. Rickards looks at the economic data and concludes that the idea of BRICS as an independent geopolitical and monetary "pole" is actually viable—itisn't just wishful thinking:

China, India, Brazil, Russia and Saudi Arabia have a combined GDP of $29 trillion or 28% of nominal global GDP. If one uses purchasing power parity to measure GDP, then the BRICS share is over 54%. Russia and China have two of the three largest nuclear arsenals in the world (the other leader is the United States).

By every measure — population, landmass, energy output, GDP, food output and nuclear weapons — BRICS is not just another multilateral debating society. They are a substantial and credible alternative to Western hegemony.

Right now the final details of the new currency are being hammered out. The original idea, as at Bretton Woods, was to "peg" the new currency to a basket of commodities--seemingly a natural, given the fact that the BRICS are so resource rich. However, as also at Bretton Woods, practical concerns are leading to the probability that the new BRICS currency will be pegged to gold. Also a natural, given that the BRICS nations are both major producers and major holders of gold. Here's how this would work:

In all likelihood, the new BRICS+ currency would not be available in the form of paper notes for use in everyday transactions. It would be a digital currency on a permissioned ledger maintained by a new BRICS+ financial institution with encrypted message traffic to record payments due or owing by participating parties. (This is not a cryptocurrency because it is not decentralized, not maintained on a blockchain and not open to all parties without approval.)

Now, all of that is interesting, but in and of itself such a new currency wouldn't be the major shock to the global monetary system that Rickards is talking about. This currency, in its current conception, is a payment currency, not a reserve currency. It's King Dollar's status as a reserve currency that gives the US its enormous geopolitical clout, such that the US can regularly screw up on the foreign policy level but retain its global power. Here, Rickards explains the difference:

Payment currencies are used in trade for goods and services. Nations can trade in whatever payment currency they want — it doesn’t have to be dollars.

Reserve currencies (so-called) are different. They’re essentially the savings accounts of sovereign nations that have earned them through trade surpluses. These balances are not held in currency form but in the form of securities.

When analysts say the dollar is the leading reserve currency, what they actually mean is that countries hold their reserves in securities denominated in a specific currency. For 60% of global reserves, those holdings are U.S. Treasury securities denominated in dollars. The reserves are not actually in dollars; they’re in securities.

As a result, you cannot be a reserve currency without a large, well-developed sovereign bond market. No country in the world comes close to the U.S. Treasury market in terms of size, variety of maturities, liquidity, settlement, derivatives and other necessary features.

So the real impediment to another currency as a reserve currency is the absence of a bond market where reserves are actually invested. That’s why it’s so difficult to displace Treasuries as reserve assets even if you wanted. Again, no country in the world can come close to the U.S. in that regard.

That's pretty much where matters stood before the American Empire launched its war on Russia. Rickards argues that there is now an opening for the creation of a "deep, liquid bond market that could challenge Treasuries on the world stage almost from thin air." Here is his idea of how this could come about, and quickly:

The key is to create a BRICS+ currency bond market in 20 or more countries at once, relying on retail investors in each country to buy the bonds.

The BRICS+ bonds would be offered through banks and postal offices and other retail outlets. They would be denominated in BRICS+ currency but investors could purchase them in local currency at market-based exchange rates.

…

In short, the way to create an instant reserve currency is to create an instant bond market using your own citizens as willing buyers.

Rickards goes on to argue that there is actually precedent for such a development and, not surprisingly, that precedent occurred in the context of a world war. From 1790 to 1917, he points out, there was no large scale US bond market at the retail level. It was strictly for "professionals." But Wilson came up with the Liberty Bond, and "Americans began to buy stocks, bonds and securities as retail investors." That, says Rickards, could serve as a model for BRICS. If so, there could be a real upheaval in the global monetary system in fairly short order. There would be, after all, real attractions to BRICS bonds:

Since the currency is gold backed it would offer an attractive store of value compared with inflation- or default-prone local instruments in countries like Brazil or Argentina. The Chinese in particular would find such investments attractive since they are largely banned from foreign markets and are overinvested in real estate and domestic stocks.

It will take time for such a market to appeal to institutional investors, but the sheer volume of retail investing in BRICS+-denominated instruments in India, China, Brazil and Russia and other countries at the same time could absorb surpluses generated through world trade in the BRICS+ currency.

The result would be that the US, accustomed to the privileged status of Treasury Bills as stores for reserves, and debauched by reckless US fiscal policies, would find itself competing against the BRICS gold backed currency and its bonds. That competition would almost certainly be very real. Stiff.

It hasn't happened yet, but keep an eye out for how this develops. The fact that gold purchases by central banks have surged since the war began is a clear signal that the search is on for secure assets. This could happen sooner than many expect, as developments in payment systems have already shown. If this happens, it could enforce fiscal discipline on the US like no other consideration ever has—which would translate into all sorts of domestic policy unpleasantness. It would also spell the end of American wars around the world.