Currencies as the Geopolitical Landscape Shifts

A reserve currency is a foreign exchange instrument that central banks, monetary authorities, and governments worldwide own as part of their foreign exchange reserves. Reserve currencies are critical for cross-border transactions and international investments in the global economy. The leading reserve currency is the legal tender of a government that exhibits economic and political security.

Since 1450, there have been six reserve currencies. Portugal held the position from 1450-1530, Spain from 1530-1640, the Netherlands from 1640-1702, France from 1720-1815, Great Britain from 1815-1920, and the United States from the end of WW I until today. As history shows, the typical life of a reserve currency is around a century, and the U.S. dollar is now closing in on Spain and Great Britain as it has been the world’s leading foreign exchange instrument for around 104 years.

Meanwhile, shifts in the geopolitical landscape could spell the end of U.S. dollar dominance over the coming years.

An alliance threatens the world order

• In February 2022, President Xi of China and President Putin of Russia shook hands on a “no-limits” alliance to create a new world power base.
• Weeks later, Russia invaded Ukraine, starting a war that continues today.
• NATO countries have supported Ukraine, while China has supported Russia.
• China has made no secret of its reunification plans with Taiwan.
• China, Russia, Iran, North Korea, and other allies have increased economic and military cooperation.

Sanctions and tariffs open the door for alternatives

• Sanctions on Russia have caused the new alliance to seek alternatives to the U.S. dollar for international trade.
• Saudi Arabia abandoned the petrodollar agreement and is now selling crude oil to China and India, the world’s two most populous countries, for yuan and rupee.
• China and Russia have set up trade protocols, circumventing the U.S. dollar for payments. 

Gold takes on a more significant role in the global financial system

• The twenty-five-year rally in gold has taken the world’s oldest means of exchange to new highs, as every correction has been a buying opportunity.
• Gold prices are closing in on $2,500 after finding a bottom in 1999 at $252.50 per ounce.
• Central banks and governments have been net gold buyers, increasing their reserve holdings over the past years. China and Russia have been the leading buyers.
• Private bar and central bank gold hoarding has increased to 49% of gold purchases in 2023 from 43% in 2022. Central banks bought 1,037 metric tons of gold in 2023, the second-highest year behind 2022’s 1,082 tons.
• The new alliance has replaced dollar reserves with gold and other alternatives.

The BRICS bloc could challenge the dollar’s reserve currency status

• BRICS countries have been investigating a new currency to challenge the U.S. dollar’s reserve currency role.
• The U.S. dollar and euro remain the world’s reserve currencies.
• Sanctions and tariffs by the U.S. and Europe have led the BRICS bloc towards an alternative for international trade and reserve holdings.
• Russia is a significant raw materials producer, and China is the world’s leading consumer.
• The BRICS currency could have partial gold backing, increasing gold’s role in the international financial markets. 

The impact of a decline in U.S. dollar status

• Non-dollarization could weigh on the dollar’s dominant role and reduce its value.
• A declining dollar increases the price of goods and services.
• A weak dollar will foster inflationary pressures and cause higher interest rates as the full faith and credit in the U.S. legal tender declines. U.S. government debt securities could fall as investors and governments demand higher yields to hold a weaker currency instrument.
• Aside from the financial ramifications of a weaker dollar, the bifurcation of the world’s nuclear powers presents growing threats to world peace.

Markers reflect the economic and geopolitical landscapes. Currency markets are susceptible to shifts in the world order. While interest rate differentials have been the leading reason for currency volatility over the past decades, the geopolitical shifts present significant challenges for the dollar’s role as the leading world currency. The dollar’s reign as the leading reserve currency could end, as the BRICS bloc challenges the dollar and other allied currencies in the global financial system.

Thanks for reading, and stay tuned for the next edition of the Tradier Rundown!