(LifeSiteNews) — There is great consternation in the United States that the era of the U.S. dollar as the world’s “reserve currency” is coming to an end, degrading America’s hegemony. Proposals at the recent BRICS summit in South Africa to create a common currency notionally linked to gold, and to initiate lending within the New Development Bank (NDB), a BRICS bank, have set off alarm bells, especially when about 40 other countries have expressed an interest in joining the alliance.
Such analysis of the state of U.S. dollar hegemony is wildly off the mark because most people, reasonably enough, think that the financial system makes some sense. They do not realize that, since the 1980s, the financial markets have been engaged in a constantly escalating game of illogic and extreme risk: a circus in which they endlessly invent new forms of money, making money out of money. It is so bad, defining what money actually is has become confoundingly difficult.
The first mistake made by reasonable people is to think that the foreign exchange markets are mainly used for trade, the transacting of goods and services. They are not. A triennial survey by the Bank for International Settlements of the foreign exchange markets shows that trading in over-the-counter foreign exchange markets reached $7.5 trillion per day in April 2022. Annual trade in 2022 was about $32 trillion. So only about 1.1 percent of the turnover of the foreign exchange system is for imports and exports.
The vast majority of the turnover is derivatives: transactions derived from conventional financial assets such as bonds or currencies. It is, in other words, a giant casino, like a massive roulette wheel sitting atop the world. The derivatives are traded using algorithms and operate at extreme speed, a debauch in which money is made out of money that might be described as high-tech usury. About half are interest rate swaps, which converts one stream of future interest payments into another.
In this financial hall of mirrors the U.S. dollar continues to dominate. The BIS survey found that the greenback was on one side of 88 percent of all trades and the Euro 31 percent. The Japanese yen and the pound sterling were 17 percent and 13 percent respectively, and the renminbi’s share 7 percent. (Before it was removed from SWIFT, Russia only ranked 17th, below the New Zealand dollar.)
To put that staggering $7.5 trillion per day into context, in notional terms the entire U.S. government debt equates with less than four days’ turnover, the market capitalization of the U.S. stock exchange notionally equates with less than seven days’ turnover, and annual world GDP equates with 15 days’ turnover.
It is only a notional comparison because the derivatives trades involve huge bets that net out to much smaller amounts when the contracts are closed. But it does demonstrate how alien to common sense the foreign exchange markets are, and how complex the trade in the U.S. dollar is. Many will object that derivatives are not “real” somehow, and they would have a point. But they are a type of transaction, and therefore a type of money.
Another way to assess the role of the U.S. dollar as a reserve currency is to consider how many financial assets are denominated in U.S. dollars. It is true that central banks are moving away from holding U.S. dollars in their central bank reserves.
According to Eurizon SLJ, the proportion of reserves has fallen from 73 percent in 2001 to 47 percent in 2022. This is hardly surprising given the decision to attempt to seize more than $300 billion in Russian central bank foreign currency assets, another tactic to bankrupt the country (which also failed). Central banks in non-Western countries are understandably worried they will be targeted next, so are reducing their exposure. But elsewhere, the U.S. dollar continues to dominate. Approximately half of all cross-border loans, international debt securities, and trade invoices are denominated in U.S. dollars. The U.S. has the biggest bond market in the world, the biggest stock market, and so on.
There is also another, very obvious, reason why the greenback cannot be replaced as the dominant global currency any time soon. Foreign exchange transactions require two national currencies on either side. For the U.S. dollar to be rendered irrelevant there needs to be a third major player. The only candidate big enough is the Chinese yuan, which could trade with the Euro, sidelining the dollar. But the yuan is fixed against the U.S. dollar and China has two currencies: the yuan for foreign transactions and renminbi for domestic transactions. That means the yuan is indistinguishable from the dollar in the international markets. It is not an alternative.
The message that should be taken away from current developments is not the “decline” of the U.S. dollar but the deepening absurdity of the financial markets. The move by BRICS is best interpreted as an attempt to restore some reasonableness into a financial system that makes little sense.
Why has this happened? The architecture of the global financial system has, for over four decades, been based on a logical contradiction that either went unnoticed or was conveniently ignored. In the 1980s there was a push from all Western economies to “deregulate” their financial systems. The problem is, it was nonsense. As Aristotle noted, money is rules about value and obligation. You cannot deregulate rules, any more than you can take hydrogen and oxygen out of water, or stop it from being wet.
Because of this embrace of contradiction, reality went in one direction and the markets in another. Private players, especially the banks and high tech traders (many of them rocket scientists from NASA) started making up their own rules of money. What might be called “meta-money” has been invented including derivatives and, more recently, cryptocurrencies, which are just another way to devise new rules.
We are now in a situation where the monetary system is so absurd it is near impossible to understand it, let alone manage it. Governments do not control it, they just clear up the mess. Traders understand their own bets, but they do not spend time thinking about the whole system. If you start out in the wrong place it becomes impossible to find your way out. Which is why perfectly reasonable and sensible analyses are so distant from what is actually happening.
As was seen in the global financial crisis of 2007-08, derivatives pose great systemic risk – and the destruction can play out with extreme speed. The lesson of that crisis should have been that what the global financial system badly needs is redundancy: extra capacity for when things go wrong. Redundancy in IT systems, for example, means having the ability to duplicate system components.
That is what the proposed BRICS system may inadvertently end up providing.
What seems likely to happen is the BRICS countries will create a new system of international transfers to rival SWIFT, the current system. Russia was removed from SWIFT because of the Ukraine war, in the hope it would cripple the country. If anything, it did the opposite. That has emboldened many countries to look at getting out of the U.S.-dominated system.
The BRICS system is likely to at least be more sane, used as a system for facilitating trade in goods and services rather than an endless exercise of making money out of money. But it will not be easy to confront the gambling now that the door has been opened. If two systems do emerge, the traders will see it as an opportunity to arbitrage between them, and to develop futures, swaps, and any other derivative they can confect. Until the fundamental nonsense of deregulating a financial system that itself consists of regulations is addressed, sanity will not be restored.