Goodbye, King Dollar

I’ve written for years about different nations’ persistent efforts to dethrone the U.S. dollar as the leading global reserve currency and the main medium of exchange.

At the same time, I’ve said that such processes don’t happen overnight; instead, they happen slowly and incrementally over decades.

While that’s true, the process is accelerating in ways no one could have anticipated just over a year ago.

The extreme economic sanctions against Russia, including its ejection from the SWIFT global messaging system, have revealed to other nations that the U.S. can do something similar to them if the U.S. disapproves of their conduct.

None of the sanctions would be effective or even possible without the use of the dollar and the dollar payments system.

So, after 79 years under the Bretton Woods arrangements, 52 years since Nixon closed the gold window, and 49 years since the petrodollar agreement with Saudi Arabia, the reign of King Dollar as the world’s leading payment currency is rapidly coming to an end.

The building de-dollarization movement represents a global sea change, which will only accelerate in the coming years. This should come as no surprise since global monetary arrangements usually change every 40 years or so.

We’re long overdue.

The Trend Is Not the Dollar’s Friend

Announcements of bilateral and multilateral agreements among countries to trade for goods and services in currencies other than the U.S. dollar are coming thick and fast. One key arrangement has taken place, in which China and Brazil have agreed to accept each other’s currency for goods and services traded between them.

China is now Brazil’s largest trading partner. China buys enormous amounts of soybeans from Brazil along with aircraft, sugar, beef, and oil. Brazil buys manufactured goods from China as well as rare earths, semiconductors, and solar panels. Meanwhile, both countries offer extensive travel and leisure venues to citizens of the other.

This is one of many such bilateral trading arrangements springing up in which one party or the other will pay or accept currencies other than the U.S. dollar.

For example, Dubai has a deal with China whereby it accepts yuan for oil. Saudi Arabia is discussing a similar deal with China. The BRICS+ (Brazil, Russia, India, China, South Africa and about 20 other invited countries) are developing a new currency, possibly backed by a basket of commodities to be used on a multilateral basis for trade among participating members.

Russia and China are far down the road in terms of using their respective currencies for bilateral trade. Russia can buy Chinese manufactured goods and technology using rubles, and China can buy Russian oil and natural gas as well as wheat, weapons, and strategic metals using yuan.

Do you think this is all unrelated?

Even the Smaller Economies Want a Dollar Alternative

The desire to abandon U.S. dollars for use in many forms is not limited to those large trading relationships. Even relatively small economies such as Kenya have now joined the anti-dollar crusade.

In the past, Kenya valued the dollar as a means of payment for Kenyan exports such as coffee, and in its valuable tourism sector. As a result, many Kenyan individuals and enterprises have hoarded dollars, often in physical form as $100 bills, because of their perceived value and as a hedge against the devaluation of the local currency, the Kenyan shilling.

Now the government is declaring war on the hoarders and the dollar itself. The government has announced plans to allow oil importers to use shillings to pay for the oil. These new arrangements will eliminate the need for dollars in much of the economy, since the oil sector represents 30% of Kenyan imports.

At the same time, the government is trying to flush out hoarders. For the time being, this is being done on a voluntary basis. The government is saying since the economy will need fewer dollars as a result of the new shilling arrangements, there is less reason for the private sector to hoard dollars.

Beyond the invitation to the hoarders to cash in their dollars is an implied threat that the government will either seize the dollars or make them non-convertible in the near future.

The president of Kenya said, “I am giving you free advice that those of you who are hoarding dollars, you shortly might go into losses. You better do what you must do because this market is going to be different in a couple of weeks.”

The president did not define what he meant by “different”, but the threat of confiscation is a reasonable inference. The move away from dollars is visible everywhere, even in the backstreets of Nairobi.

Don’t Confuse a Payment Currency With a Reserve Currency

It’s important to note that these developments in the use of new payment currencies for trade are not the same as changes in the world of reserve currencies, which perform a different role. There’s a difference between a payment currency and a reserve currency.

A reserve currency refers to the unit of denomination of securities held in reserve by countries. It’s something like your savings account but it’s controlled by the treasury or finance ministry of each country.

These reserves are not actual currency deposits. They’re securities such as US Treasury notes or German government notes (bunds). They’re denominated in Dollars or Euros but they’re securities, not cash. That’s the key.

If you don’t have a large, liquid government securities market with a good rule of law then you can’t qualify as a reserve currency. The US Treasury market is the only market in the world large enough to absorb the savings of major trading powers such as China, Japan and Taiwan, so the dollar is the leading reserve currency.

That won’t change in the near future. When the dollar replaced Sterling, it took 30 years from 1914 to 1944 to complete the process.

A payment currency is different. It’s the unit of account for paying for imports and exports, but it’s really just a way of keeping score. Periodically the trading partners settle the score with a transfer of assets that can include commodities, dollars, euros or gold.

It’s much easier to launch a new payment currency than a new reserve currency because you don’t need a large securities market. You just need a reliable ledger system and willing partners.

I want to draw the distinction between a payment currency and a reserve currency because many people confuse them, while there are important differences.

Still, the world is saying to the U.S.: “Dollars? We don’t need no stinking dollars.” Indeed.