A significant development is happening globally: the dollar has weakened as an exchange currency in the commodities market, opening the possibility of a new world reserve currency.
Contents
In Short
- The petrodollar pattern is losing steam with China’s negotiations with Saudi Arabia.
- The dollar has a confidence crisis due to U.S. sanctions on Russia.
Is the Dollar in Danger as the Global Currency? While this is happening, China’s renminbi (better known as yuan) and bitcoin are on the table as two options to become the next global reserve currency. To understand why and how all this is happening, we must first take a brief historical review and go back to the last century. By the early 1900s, the world’s monetary system was very different. It was gold-based. Each country undertook to guarantee that its currency was worth a certain amount of gold under its safekeeping. However, with the outbreak of two world wars, the international economy underwent a violent transformation. The gold standard saw its end.
The Origins
By 1944, an agreement of great importance for the financial memory of the world, the Bretton Woods, was being signed. This event gave birth to the World Bank and the International Monetary Fund (IMF) and established the dollar as the world currency. The United States would become an issuer of currency backed by its substantial gold reserve. Those other countries could use this money to trade goods and services.
However, the idyllic system that Bretton Woods proposed did not last long. In the 1970s, we would see the beginning of the financial chaos that we still have today. The U.S. President at the time, Nixon, unpegged the dollar from the gold standard during inflation caused by the U.S. war in Vietnam. The decision led to an international financial collapse and many tensions in foreign countries. Some decided to float their currencies on the open market to support the value of their economies.
This measure determined the beginning of the depreciation of the U.S. dollar, although it continued to be the most dominant currency in the international market. Today, 90% of foreign exchange trade uses the dollar. It is still the most common reserve currency, accounting for 60% of world reserves. This percentage is much more significant than other major currencies such as the euro, yen, renminbi, and Canadian dollar.
But what is the reason for the dollar’s continued success as an exchange currency if the economic decisions taken by the United States in recent years have not been the best? Well, in general terms, this situation is determined by the political power of American power and its international relations, with oil being an essential part of its use as a world currency. Knowing one concept, the petrodollar, is vital to understanding the current situation.
Oil, the cornerstone of market dominance
Also, during the Nixon administration, they intended to finance the war without depending on gold reserves. The United States agreed with Saudi Arabia they would sell Saudi Arabian oil in exchange for dollars. Alex Gladstein, director of the Human Rights Foundation, explains that the U.S. was able to accumulate oil. The oil-producing nations would invest their profits in U.S. debt through these negotiations.
Long story short, the United States achieved what it wanted shortly after the agreement with Saudi Arabia and OPEC. It is one of the most important oil-producing organizations globally, agreed to sell its products only in exchange for dollars. Thus, almost 80% of the world’s crude oil production is still traded under the petrodollar system. Nations of the European Union, China, and even Russia have been obliged to have dollars to buy or sell oil. Yes, they have to use foreign currency to quote their raw materials or acquire those of other states.
Oil Wars
Many countries attempted on several occasions to overturn the petrodollar standard. The reality is that the United States has jealously guarded its dominance in this market. In the 2000s, one of the worst wars, known as the “oil wars,” broke out after Saddam Hussein, president of Iraq, tried to sell his crude oil to Europe in exchange for euros. The U.S. government argues that the war started because of Iraq’s terrorist connections. It also blamed its development on weapons of mass destruction (atomic bombs). With the end of the war, it became clear that they were protecting the hegemony of the petrodollars.
Venezuela has been another country that recently tried to trade oil with a currency other than the dollar, in this case, China’s yuan. Crude oil was traded in different international currencies, trying to dissociate itself from the U.S. government, which had recently imposed sanctions on the country. However, this did not have significant repercussions today. The Caribbean nation is again in talks with the United States to commercialize its crude oil.
Petrodollar ubiquity
The dominance of the petrodollar is facing one of its greatest threats since its creation. China, the buyer of 25% of the oil generated in Saudi Arabia, is talking with the country to close the crude oil prices to trade in yuan. This discussion has been going on for years without a resounding answer. Still, today, China’s political relations with this Middle Eastern kingdom are stronger than ever, while U.S. relations with the Arab country have weakened.
With this move between China and Saudi Arabia, it is clear that the Asian giant wants to remove the ground from the dollar as the world currency, and who knows if it also wants to impose a petroyuan standard. It is not the first time China has tried introducing oil contracts quoted in yuan to the market. The government has also promoted a fierce campaign to adopt its cryptocurrency (the digital yuan) as the new trading currency.
Considering China’s power in world trade, it is evident that this movement endangers the dollar hegemony. In addition, the ongoing war in Ukraine due to Russia’s invasion may also change the game’s rules and worsen the already precarious situation of the U.S. dollar.
The collapse of confidence and shift to a new monetary order
The confidence generated by the traditional financial system and the dollar as a world reserve is also crumbling after years of erosion. With the constant sanctions imposed by the United States on countries such as China, Venezuela, North Korea, Iran, and Russia, the message has been clear and forceful for citizens and leaders. Money does not belong to everyone but to the one who issues, safeguards, and distributes it. Ergo, the United States.
A country with a little more than 300 million inhabitants can control the lives of more than 7B people who (possibly) do not share the same culture, geographic reality, or economic benefits. For obvious reasons, this generates an imbalance in world finances that different powers wish to remedy by promoting the use of their currencies (as is the case of China).
As if that were not enough, the war has also generated a new economic climate (due to the sanctions) that puts new elements on the table, as is the case of the blockade of Russian oil. Russia is another country leading in crude oil exports, gas production, and other raw materials. However, the international community blocked Russia from accessing dollars in the whole region through the SWIFT system. The Eastern European nation has not been able to benefit from the current oil price increases, whose price has plummeted.
The costs of the war
Credit Suisse analyst Zoltan Pozsar thinks this is the beginning of an economic crisis to give birth to a new monetary order. He names it “Bretton Woods III.” Poszar predicts that the current weakness of the dollar and the euro and the lack of confidence they are experiencing could lead to a debacle in the global commodities market. As a result, interest in external money is growing over the internal money of each country, with products such as flour, oil, gold, and gas increasingly rising in price.
The analyst points out that because Russia’s raw materials are out of play, the value of all raw materials from other countries has grown. Those allied with Europe and the United States will stop doing business with the sanctioned country. However, powers such as China decoupled from Western interests. They do not want to rely on the dollar. They may see Russia’s commodity as an opportunity to continue carrying out their petroyuan contracts and back their currencies as Russia’s oil (and gas).
For Poszar, everything is the prelude to a new money era. The renminbi will emerge stronger as the dollar weakens. He does not believe China is the only vital piece in this chess game. He proposes that it could also benefit if Bitcoin survives this juncture.
Does Bitcoin have a life in this scenario?
It is unknown who will take the “world’s currency” title if the dollar loses its power. Likely, the answer is not as simple as saying the yuan, the yen, the euro, or bitcoin. However, it is crucial to remember that in a globalized world like the one we live in today, which is going through a substantial institutional and confidence crisis, it is difficult for a single currency to impose itself as the dollar did in the past.
China also has many “buts” in its financial system because, although it knows how to take advantage of the situation, there is significant resistance in the West to accept the way the government of the Asian giant works. With the possibility of losing privacy over your finances and freedom of decision, more than a few people reject using the digital yuan and any form of adoption of the Chinese monetary system. In the case of the yen or the euro, they do not turn out to be not powerful enough to be substituted for the dollar.
Although the dollar is weakening, the United States continues to be a country of significant political and economic influence. So it will not be easy for an abrupt change in the world economy without the American power to fight for its survival.
Curiously, a new name has crept onto the table of candidates to become a reserve currency during all this context. With adopting bitcoin (BTC) as a legal tender in El Salvador, Satoshi Nakamoto’s cryptocurrency has made its way to the top of government. It is a valuable safeguard option supported by those seeking greater freedom, privacy, and decentralization in global finance.
Bitcoin as a global reserve
Alex Gladstein notes that “Bitcoin is an asset competing to become the new global reserve” in a centralized money world in the hands of the top tier. People think that this way of using money is unreliable and unfair. Many present Bitcoin as an option that a few for manipulation or censorship cannot control, just as it is impossible to change its monetary policies to benefit one group of people over others.
In an ideal world where we have the right to choose what money to use and enjoy the same financial system benefits, Bitcoin would likely be the currency that rules the world and not a Central Bank currency. However, we must also understand that cryptocurrency has not even reached 20 years of its creation and is still a very niche form of money. It may not yet be ready for the demand generated by becoming the new world reserve.
We will have to wait and see what the current power struggles decide. Still, it is evident that money, as we know it, will never be the same again and that it is difficult for the dollar to emerge victorious from the current crisis.