The Russia-Ukraine war has triggered such a slew of actions against the US dollar that it seems that the world had been awaiting an opportunity to challenge the dollar hegemony.
India and Russia are trying to establish rupee-ruble trade settlement while China and Saudi Arabia are exploring trade settlement opportunities in their respective currencies.
If such trade settlement negotiations materialise, it would be a defining moment in global trade. Currently, global trade is predominantly settled in US dollars and Euro. According to the Federal Reserve Research Report of October 2021, from 1999-2019, the dollar accounted for 96% of trade invoicing in the Americas, 74% in the APAC and 79% in the rest of the world. About 60% of the international and foreign currency liabilities and claims are denominated in USD. This share has remained relatively stable since 2000 and far exceeds that of the Euro, which is at 20%.
A recent SBI report says that this is a moment of reckoning for the Indian Currency (Rupee) and is an opportunity for internationalisation of the INR as countries are proposing trade in their fiat currencies to by-pass the economic sanctions imposed by the western world.
Internationalisation of a currency implies that the currency can be freely transacted by both residents and non-residents of the country, and be used as a reserve currency for global trade.
Russia-Ukraine war may start war against the dollar hegemony:
Post the severance of Russian financial institutions from the SWIFT system and the freezing of Moscow's dollar reserves by the US and its allies, the muscle-flexing by the West is apparent. Nations may now be more eager to diversify their forex reserves so that their financial security may not depend upon their relationship with Washington.
Productive economies of the world deplete their resources and exhaust their manpower to boost their exports. This is done to earn more and more forex so that the productive countries may invest their forex surplus in the so-called 'real economy'. This strategy has been more prevalent since the Asian Financial Crisis of 1997. The US is the largest beneficiary of investments from export earnings of developing countries. This is because it is the dominant currency for global trade.
As per Greed and Fear report by Jefferies, China with $3.2 trillion of forex, Saudi Arabia with $447 billion, and India with $632 billion are some of the countries with largest forex. China, India and Saudi Arabia holdings of US treasuries totalled $1.07 trillion, $199 billion, $119 billion respectively at the end of December 2021.
As per Bank of Russia, currently, Russia holds 21.7% of its assets in monetary gold, 21.7% in Euro, 6.6% in USD, 10% in Yen, 14% in Renminbi and the rest in SDR, and others.
Currently, Russia accounts for just 1.7% of global GDP whereas the US accounts for 24.6% of global GDP and China accounts for 17.5% showing the dominance of the US and China in international economic affairs and trade.
The Asian Financial Crisis terrified the developing countries into creating a reservoir of currencies from crashes. Thereupon many economists considered investing in dominant economies like the US and Europe as panacea. The poison in the panacea is now apparent from the recent moves against Russia which demonstrated that these forex assets are someone else's liability- and that someone can just decide that they are worth nothing.
Moreover, in the last 40 years fiscal deficit rose significantly in western economies. Defying traditional economic laws the yield on US treasuries and some European sovereign bonds declined despite the rise of deficit. Thanks to Modern Monetary Theory, Western nations enjoyed luxuries at the expense of the rest of the world's hard work and investments.
How de-dollarisation may pan out:
While central banks have lately sought to buy and repatriate gold, it only makes up 13% of their forex assets. Foreign Currencies are 78%. The rest are positions at the IMF and SDR- an IMF created claim.
For the record, global forex rose to a record $12.83 trillion at the end of 3Q21 while the US dollar's share of world forex declined to a 25 year low of 58.9% at the end of 2020 and was 59.2% at the end of 3 Q 21, according to the IMF.
Countries like China and Russia have thus realised the threat of exchanging their produce for the dollar, whose value, and access, is controlled by the US. They have also created alternatives to the SWIFT. And after the Russia-Ukraine war, more countries may find merit in this strategy.
Two pronged transformations in the global financial system will result in the swifter downfall of the dollar: One, the increasing willingness between two countries to use their own fiat-currencies for trade; second, faster adoption of alternatives to SWIFT.
China has already launched e-CNY, Digital Yuan, in January 2022 as their sovereign crypto-currency. Its CIPS is an alternative to SWIFT, albeit of a much smaller scale. However, the propensity for de-dollarisation coupled with the trade might of China, may lead to increased dominance of Beijing led financial systems.
As more countries start trading in their fiat currencies, there are chances that the IMF SDR basket may become a de-facto reserve currency against which all other currencies may be pegged. China has been pushing this agenda for a few years now as the RMB became the first emerging market currency to be included in the IMF's SDR basket.
It is time for India to take stock of the readiness of its financial systems and plan to safeguard its financial sovereignty because reins of global finance in the hands of either the US or China, does not bode well for India in any case.