In our previous article we looked at whether the U.S. Dollar was headed for a major fall or not. We demonstrated how the dominance of the U.S. dollar was almost entirely dependent on the grip it had over oil producers and this allowed the oil price to be denominated in the U.S. dollar. The U.S. has gone to war in Kuwait and Iraq over this issue under the guise of destroying “weapons of Mass Destruction” as it appears on the verge of doing in Iran. It is no coincidence that Iran has long since ceased using the dollar to price its oil. It has also eliminated the U.S. dollar from its reserves. But of greater importance to the emerging world has been the use of the Belgian-based SWIFT system of international settlements. Not only has the move stopped the sale of Iranian oil, but it has also interfered with an important source of oil to the emerging world.
Right now there are ongoing discussions between the BRICS (Brazil, Russia, India, China and South Africa) countries over their use of the SWIFT system of international settlements as a ‘weapon’ against Iran. The full extent of the impact of this appears to have been ignored. With China and India as two of Iran’s clients, they found that the U.S. could hurt them considerably with this action. If they can hurt them in this way, then they can hurt them the same way on other issues. So the question that the BRIC nations are now asking is, “Must we be subject to the financial will of the U.S.?”
The question has long-term implications that could affect these nations' freedom of financial activity. The question demands to see just how powerful the U.S. really is. It is very clear to these emerging nations that if they are to keep on growing, unfettered by the U.S. will, they must set up a system that is not vulnerable to U.S. influence and to reduce the influence of the dollar itself.
What is being realized slowly is that the actions that come out of this conference may well mark a watershed in the shift of power from West to East and the significant reduction in the power of the U.S. as the globe’s main financial influence. Consequently, these nations will have to lower the influence of the U.S. dollar on their affairs if they are to achieve real financial independence. This has to be a future and extremely negative influence on the international value of the U.S. dollar.
While the SWIFT settlement system is a Belgian-based international banking settlement agency, the U.S. influence over it was sufficient to halt all Iranian interbank transfers. It is not the system that is faulty but the influence of the U.S. over it that is the danger to the BRIC nations.
China, the Rising Dragon
China, for the last two years has been moving to expand the influence of her currency around the globe, initially with her main trading partners. She has been developing her banking system, using the Yuan in a limited way in her trade with outside nations, from whom she imports a great deal and is developing her monetary systems so that the Yuan will become a global reserve currency one day.
That day is still expected to take up to a decade to achieve, but as history has shown so far, China is moving far faster than all expectations have thought. Nation by nation, strategic item by strategic item, China has been introducing the Yuan as the payment currency in a series of ‘swap’ arrangements. The latest is Australia, with South Africa coming on stream by 2015. This will take the Yuan deep into the heart of Africa. By then we fully expect to see the Yuan an internationally acceptable currency in which to deal.
Her progress to date has targeted growth-markets, mainly other rapidly developing economies, as well as the whole Asian continent, and no longer just the U.S. and Europe. One of her key strategies through the Shanghai Cooperation Organization is to build a pan-Asian security and trade bloc in partnership with Russia. The last element of this 10-year old plan is to settle cross-border trade without using the West’s financial system. China expects to play a major part with her currency, which explains why she is adding to her gold reserves. The relevance of gold is that China will have to show to the people of Asia that her currency has better long-term prospects than the dollar, which goes some way to explaining why so many of the countries associated with the S.C.O. are now also accumulating gold.
To date, China has had to be extremely careful in moving away from the dollar, for the value of over $3.18 trillion in her reserves needs to be maintained. A sudden withdrawal would badly damage this, which China cannot afford right now. At worst, a global systemic collapse of the monetary system could happen if the evolution away from the dollar were handled badly.
The latest moves by the U.S. are deeply disturbing to China, as they have the power to directly hurt the spread of the Yuan on a global basis, if the U.S. so decides. Consequently, China is threatened right now! China has been working on alternatives so far, but the moves on the SWIFT system by the U.S. have made the issue urgent as she now faces a security threat. As China continues to develop, she will face a massive demand to be able to provide financing for expensive capital goods. China can no longer afford to depend on the U.S. dollar as the financing currency for its goods, as it is technically possible, although unlikely at the moment, to face threats from the U.S. even on this subject.
It is clear to the BRICS nations that they need to set up institutions at the heart of the present world financial systems to act as an alternative to the World Bank and the International Monetary Fund and perhaps a replacement to the SWIFT system for transactions with the emerging world. It will not be sufficient to just have an important role in the developed world institutions. It will also be inappropriate to rely on the U.S. dollar as the currency of the emerging world as it is now.
Gold Is Critical to any Change in Currencies on the Global Monetary Scene
Perhaps the largest flaw in the current global monetary system is its reliance on foreign acceptance of national currencies. When the U.S. was unquestionable and unchallengeable, there was no doubt that it ruled the global monetary system completely.
What is relevant is that these emerging nations are headed towards financial independence from the U.S. and are moving toward a separate currency system, which is not held hostage to the U.S. The attack on Iran simply emphasizes the point. But let’s take that one step further and ask, “At what point in time will the emerging world have economic independence from the developed world?” We can see this on the horizon, as the developed world demonstrates its ability to make anything that the developed world is making, but cheaper. We cannot say how close this day is but the issue is in front of us now, and financial systems must accommodate this change or suffer ruptures similar to those we have seen since 2007…or worse.
In a financially hostile world, currencies—like the main ones of the developed world—must have a good stockpile of gold in their vaults to weather those days when other nations fear holding any particular national currency, no matter how seemingly important it is. When doubts about a nation’s currency rise, the use of gold as collateral facilitates transactions and lowers the interest rate charged.
At the moment the emerging world has far too little gold to weather such storms. China is aware of this and is doing something about it and doing it in a hurry. We don’t know how much gold they are buying, but that need is amply demonstrated by the law that forbids exports of gold from China. Please note that Chinese gold is held in China or Hong Kong. The brand new gold vault near the airport in Hong Kong is ideal for storing the gold of China and its trading partners (as an alternative to the Fed or the Bank of England, et al). As the emerging world seeks an alternative system, they will have to follow China’s lead as that will be the ‘tree trunk’ of the new currency system with other nations being the branches springing out of it.
Gold will always remain international money completely free of national markings. It is the one ‘currency’ that can be exchanged that is trusted between enemies. And therein lies its value! Gold in national vaults gives a certain weatherproof quality to a nation’s wealth. That’s why it is pointless in giving it a currency price. When extreme times arrive, that price will change in line with the credibility of the currency pricing it. That’s when gold becomes priceless! The fact it remains internationally exchangeable when currencies are not, makes it a vital reserve asset and one that an internationally trading nation must stockpile.
That’s why the pretense of removing gold from the monetary system can only happen when such pressures are absent. Once they are present gold comes back in a rush. We have been on the re-monetization of gold since before 2009!
The ‘national’ aspect of currencies will come to the fore when political differences and economic competition and self-sufficiency takes hold in the emerging world. Confrontations such as we are seeing now over Iranian oil will hasten that day. So the need for a currency and currency system that retains credibility when political and financial hostility come to the fore is critical. At those times the international acceptability of a nation’s currency is questioned, no matter who it is. We look back at history and say it was no coincidence that the U.S. confiscated citizen’s gold in 1933 and accumulated above 26,000 tonnes of it ahead of the Second World War.
All currencies, like airlines, have their national ‘hub’. Each national currency is deposited in the financial capital of their home nation, even when owned by foreigners. Their acceptability is reliant on the government of that day. After all, every dollar goes through New York, no matter who owns them. So, new international currencies must follow the same road. All Yuan will pass through either Hong Kong or Shanghai as it expands across the world.
Simply, the separation of the emerging world financial system from that of the developed world will bring about their own systemic threats. On the emerging world these will be minor as they are starting out afresh.