The story of Russia-Ukraine war is unfolding like the plot of Homer’s Iliad rewritten by renowned science fiction writer Issac Asimov. Russia, it seems, is orchestrating not only military attacks but also cyber warfare. Ukraine has retaliated with automated drones, while U.S. and E.U. have launched a concerted financial war to contain Russia.
The Russia-Ukraine war is demonstrating a new world order where automation, information technology, control of narrative and finance will dictate the winner of the game of thrones. This is worrying countries that are outside the U.S.-led alliance.
“If used too widely, sanctions could reverse the process of globalisation that has allowed the modern world to prosper,” former Reserve Bank of India (RBI) Governor Raghuram Rajan has written in a recent essay. Current Governor Shaktikanta Das cautioned about too much reliance on U.S. dollar and said RBI was diversifying its forex reserves.
The important question is: Is India ready for financial warfare if it finds itself on the wrong side of a super power in future? What does the war mean for countries such as India that are not part of the big power game?
De-dollarisation on Cards
Ironically, in war between Russia and Ukraine, U.S. dollar may be the loser as nations realise the importance of diversifying forex reserves. Expulsion of Russia from SWIFT financial system and the decision to freeze Russian foreign exchange by U.S. and its allies have laid bare the glaring risks associated with dollar hegemony for central banks across the world.
An interesting conundrum in today’s world is that more productive a country is, the more it exports. The more it exports, the more forex surplus it has. The more surplus it has, the more it invests abroad. Dollar hegemony ensures that the preferred destination for such investments is U.S. The trend picked up pace after the 1997 Asian financial crisis scared developing countries into accumulating foreign exchange to shield their currencies from crashes, pushing official reserves from less than $2 trillion to a record $12.9 trillion in 2021, according to IMF.
While central banks have of late sought to buy more gold, it still makes up only 13% of their forex assets. Foreign currencies are 78%. The rest are special drawing rights (SDR), an IMF-created claim. Russia is more diversified, though. As per Bank of Russia, the country holds 21.7% of its assets in monetary gold, 21.7% in euro, 6.6% in U.S. dollars, 10% in yen and 14% in renminbi.
As per the Greed and Fear report by Jefferies, China with $3.2 trillion, Saudi Arabia with $447 billion and India with $632 billion are a few nations with largest forex reserves. They hold US Treasuries worth $1.07 trillion, $199 billion and $119 billion, respectively.
China and Russia have already started moving away from dollar and SWIFT. After the Russia-Ukraine war, more countries may find merit in this strategy. Nations have understood that barring gold, foreign currency assets are someone else’s liability, someone who can just decide they are worth nothing.
In an exclusive discussion with Fortune India, the Head of Research, World Gold Council, Juan Carlos Artigas, says the role of U.S. dollar in international trade is well-established, but it has been slowly moving towards a more “multicurrency” system, especially with increasing relevance of China in international trade.
In 2016, China’s renminbi became the first emerging market currency to be included in SDR. The others are U.S. dollar, euro, yen and pound sterling. China advocates use of SDR basket as a global reserve currency. China’s long-term strategy is to peg currencies of its main trading partners to renminbi while renminbi itself is pegged to this super sovereign reserve currency.
The Gold Rush
The dissolution of the Bretton Woods Agreement in 1970s led to de-anchorage of money from gold and pegging of other currencies against U.S. dollar.
But in past two decades, gold’s share in forex has been rising. Central banks across the world bought 463 tonnes of gold in 2021, according to IMF. RBI mopped up 77.5 metric tonnes, its second highest ever after 2009, when it had bought 200 metric tonnes from IMF. The U.S. dollar’s share of world forex declined and touched a 25-year low of 58.9% at the end of 2020. As per IMF, at the end of October 2021, it was 59.2%.
John Rubino, editor of DollarCollapse.com, though, says gold could move back to the centre of the global monetary system as the main reserve asset in a new gold standard. London Metal Exchange’s first woman dealer, Geraldine Bridgewater, however, doubts if there will be a return to gold standard.
The SWIFT Alternatives
The evolution of electronic transactions led to the founding of Society for Worldwide Interbank Financial Telecommunications (SWIFT) in 1973 with 239 banks in 15 countries. SWIFT is not a payment system but an international language through which banks from different countries interact. At present, it has more than 11,000 institutional members from 200-plus countries and territories. The mammoth scale of SWIFT coupled with the fact that a majority of its transactions are settled in U.S. dollars helps solidify the dollar’s status as a global reserve currency. It also makes U.S. wield an unequal influence over SWIFT.
In 2014, Central Bank of Russia created its own messaging system, System for Transfer of Financial Messages (SPFS). More than 400 financial institutions had joined SPFS as of 2020.
China, too, launched the Cross-Border Interbank Payment System (CIPS) in 2015 that is backed by People’s Bank of China. CIPS processed transactions worth around $12.68 trillion in 2021. By January 2022, about 1,280 financial institutions in 103 countries and regions were connected to the system.
In 2018, dissatisfied with Washington’s imposition of sanctions on Iran, E.U. had launched INSTEX (Instrument for Supporting Trade Exchanges) as an alternative to SWIFT for humanitarian trade with Iran.
India is yet to launch a similar initiative. Its banks are more or less dependent on SWIFT. The big question is, as fountainhead of the Non-Aligned Movement, can India draw upon its legacy to build a financial system that is fairer and not prone to misuse for settling scores between countries? Can the country, with its large fintech base, build its own non-aligned settlement system that is fair and not dominated by one group of countries?
The cheaper and more efficient blockchain technology is already a threat to SWIFT. Sovereign cryptocurrencies transacting through Decentralized Finance Blockchains would allow countries to be more resistant to bullying by those who dominate global financial systems.
In 2017, Russian President Vladmir Putin had announced plans to launch CryptoRuble as Russia’s sovereign digital currency. It is expected to be launched this year. China has already launched e-CNY, digital yuan in January 2022, and is driving its adoption through mobile apps within the country. RBI, too, is working on its own cryptocurrency.
Lessons For India
Today, when the changed nature of warfare is visible to all, it is imperative that India strengthen its financial defences as much as its military defences. After all, wars that strangle a country’s economy can be lost without fighting. Rivals can use any bogey, right from terrorism to racism to environmental concerns, to cut off a nation from systems such as SWIFT.
At present, 30% of India’s forex reserves comprise U.S. dollars. We do not have an alternative financial system that can circumvent SWIFT. The situation will worsen if China’s CIPS and RMB grow as alternatives to U.S. dominance. India will remain at the mercy of either a tenuous diplomatic alliance or a hostile power unless it establishes its sovereign financial network.
In FY2020, India accounted for approximately 55% market share of the global IT & Business Process Management sourcing, as per an IBEF report. It already has 750 million smartphone users, according to Deloitte TMT’s November 2021 report. The vast pool of IT professionals and fintechs and a robust base of digital technology users can be turned into a major advantage. Building own digital cryptocurrency and financial blockchain network, as well as driving their adoption, is well within India’s reach.
However, strong IT systems need an even stronger security as warmongering has not spared the cyber-domain either. Fitch Ratings said in a March 4 report that cyberattacks on businesses and government agencies have increased following the Russian invasion of Ukraine. In future, India’s military may need hackers and IT experts, as much as soldiers.
As Epitoma Rei Militaris, the Latin book that was considered the Military Bible of Europe, says – “Igitur qui desiderat pacem, praeparet bellum”, which means, ‘In times of peace, we must prepare for war.’ Creating an alternative to SWIFT, launching its sovereign cryptocurrency and shoring up cyber-defence are initial steps India can take in that direction.