Long before the Russia Ukraine conflict, the United States dollar was being questioned as the reserve currency. The financial crisis of 2008 showed the entire world that putting all of your eggs in one basket is typically not a good idea, and the US Dollar is no exception. The more debt we take on as a country, soon to be in the neighborhood of 20 trillion, the more the world worries if we’ll ever be able to pay our bills without destroying the value of USD. In 2001 USD made up 72% of global currency reserves. Today that number is near 60%.
Sanctions Affecting Markets?
In late July both the United States and Europe extended sanctions against Russia due to the Ukraine conflict. The sanctions now include 5 of the 6 largest Russian banks as well as the Russian oil industry and military. Waging financial war against a country that holds the second largest position of your debt (after China) seems like a risky strategy to say the least. Thankfully, Russia is a part of the global economy that it would destroy if they ever dumped all of their USD and U.S. Treasuries at once. Barring Russia taking a “mutually assured destruction” strategy they will need to start unloading their USD to offset the sanctions.
The real threat in regards to a financial counter attack by Russia is for them to start conducting business with other countries without using USD. This was ultimately going to happen in the future but the sanctions left Russia no choice but to speed up the process. As our sanctions restrict Russian banks and corporations access to U.S. and European capital markets they are forced to conduct business in other currencies. Many Russian companies, whether they have been sanctioned or not, are moving large chunks of their reserves in to the Hong Kong dollar. The richest Russian individuals are moving their wealth to banks in Hong Kong, Singapore, and Dubai.
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On May 20th the bank of China cut a deal with VTB, one of Russia’s largest commercial banks, to pay each other in their respective currencies. Since World War II, nations have always settled International transactions in USD. This was a huge event and could be a precursor of things to come. It is one thing when countries start conducting business in their own currencies and away from USD; it is quite another when those two countries are your largest debt holders and also happen to be two of the biggest exporters and importers of oil respectively (look up the history of the petrodollar).
Should Russia and China, who combined hold enough U.S. Debt to crush our currency in an hour, ever use that leverage to start trading oil with each other for gold or any currency other than USD it is all over but the crying. The collapse of the Petrodollar is the collapse of USD and all of our economic power, period. It’s not exactly far-fetched to think that countries like Iran, Iraq, and Saudi Arabia would be glad to send their oil to China in exchange for non-USD payment.
The sanctions we’re imposing against Russia look like a case of not only wielding leverage we don’t have, but even worse, pushing the two biggest threats to our financial power in to each other’s arms. In 2008 when we almost single handedly crushed the global economy the conversation about moving away from USD as the global reserve currency was started. Now we are basically forcing Russia to move away from USD and they had no problem finding a dance partner in China. I think the Arab countries would gladly do the same. You’d think we wouldn’t be in a rush to push the world down that path, but the Russian sanctions are doing just that.