đNot Your Average Dollar Pt. 2
The petrodollar has been put into serious question as BRICS and friends make a push to move foreign trade away from the dollar.
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Headlines have been striking even mainstream news organizations about fracturing of the longstanding petrodollar regime, a privilege the US has held due to agreement with Saudi Arabia to price oil in dollars dating back to the early 1970s. As I discussed in part one, the agreement gave the US outsized influence over the region. With nearly infinite buyers of US treasuries, they had the ability to issue more and more currency under lower and lower interest rates and yielding an unfair advantage compared to the rest of the world. The 1970s were a tumultuous time, wrought with inflation, geopolitical tensions, and economic volatility which I have discussed previously. The waning of the petrodollar, a major force for US dominance globally is a topic that both left and right political organizations have expressed concern about recently.
How significant are these developments, enough to shake the US from its perch at the top of the geopolitical landscape?
For context, the BRICS countries (Brazil, Russia, India, China, and South Africa) have already announced their hopes to adopt a new currency and trade system and have policies to shift away from US reserves. Other countries like Saudi Arabia, Turkey, Iran, Egypt, Indonesia, and maybe even Mexico have shown interest. This has been exacerbated and brought to higher attention due to Russiaâs invasion of Ukraine and the subsequent actions the US used to confiscate Russian foreign exchange reserves. This sanction could backfire in the long run as other countries may worry about the safety of their US reserves. The concern is whether this behavior of moving away from US dollar trade and holding US dollars as reserves continues to spread and eventually the US will lose reserve currency status. While nothing big has happened yet, slowly this trend has been progressing.
While not all trade is done in dollars, the vast majority is. Eyes are on whether this dominance can be viably challenged by others. In recent news, China and Brazil have decided to move trade in another currency. Brazil is a key commodity producer, and China is a large economy and commodity importer so this deal makes strategic sense for both. India has made similar agreements with its trading partners.
Further, China continues to make commodity plays with deals with the middle east for fossil fuels. The UAE/China have completed a natural gas trade deal in Yuan, bypassing the US.
Saudi Arabia, perhaps the most important OPEC member, has shown interest in joining BRICS. The petrodollar agreement provided Saudi Arabia with protection so long as they performed trade in dollars. Recently, the Saudis have been distancing themselves and acting contrary to the USâs interest in addition to large investments in Chinese petrochemical industry. This includes building a refinery and supplying oil which will surely circumvent the US altogether.
Over the weekend, OPEC decided to cut oil production. This comes after Biden and the US met with OPEC last year to ask for production increase. This clearly shows a concerted effort to move at odds to the interests of the US who even said the production cuts are not advisable in the current environment.
OPEC could also be concerned with the use of the SPR to manipulate oil prices last year. Now with much of the SPR inventory drawn down and promises to refill, the US has begun draining it again. It is unclear how much or how long this will continue, but soon the SPR could be a levels leaving the US susceptible in event of a real emergency.
While I have been warning of these de-dollarization trends, seeing major headlines about them does has me feeling a bit weird honestly. The contrarian part of my brain is telling me that I should not just confirm what I thought, but balance with some perspective on timeframes. While getting news is great to know whatâs going on, I want to emphasis that there shouldnât be panic over big headlines like these. Big macro trends are not fast, and as such these are likely just âcracks in the damâ if you will. The US dollar is formidable, and a transition wonât be overnight. Most likely if this trend continues, it will be countries continuing to gradually shift to other forms of payments over years/decades.
In addition, the US has deep and liquid financial markets unparalleled by any other nation. Chinaâs markets are not free/open and would be difficult to open to the rest of the world and maintain the level of control over their economy as they do. The capital controls dictated by the government are not conducive for global trade settlements and trust in the currency. Further, many of the BRICS countries donât have a fantastic track record of trustworthiness, leading to questioning whether they can even pull a de-dollarization scheme off or if it would collapse under further disagreements between the partners. The US also has the largest military, and if threatened enough could leverage it to maintain control in key areas similar to the repeated involvement in the middle east over the years. US is a huge oil/gas producer exporter itself which bodes well to insulate from unforeseen changes with OPEC. While commodities have been getting more attention, the US and allies like Canada have some of the best resources/geography in the world which could possibly provide insulation as well, albeit at higher labor costs.
While de-dollarization is a real trend, and I believe will cause commodities to rise to heightened importance in the coming years, it is important to maintain perspective that it will not happen overnight or do anything crazy like collapse the US. Understanding the benefits the US maintains even under the circumstances is an important exercise to go through even as the US may be making some wonky choices itself. The US is not the omnipotent global influence it once was, but that doesnât mean itâs not still the big bully on the block. Until next week,
-Grayson
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Solid analysis, because I agree! Regardless of what happens to the dollar, the forces of instability remain viable. The US action to punish Russia added a note of uncertainty to the currency market.
The real damage might be the Sauds along with others reducing output with no US response. They are expecting a world slowdown. I guess. But it will increase inflationary factors. The Fed will likely allow devaluation to continue at a 5% rather than a 2% rate if only to ease debt service burden and bank losses. This exports even more inflation to the world but still the US remains a safer haven for large capital. Billionaire could care less about 5% but the poor everywhere will suffer.
Unclear if the US will see a public revolt against management. The system rigging might take some time to unwind. But if the current incompetence continues and polarization prevents reform, trouble ahead.