The decision to remove Russia from the SWIFT system that is used for international transfers, is setting off a strange split in the global financial system. It is bifurcating. On the one side the West is continuing with its endlessly expanding intangible transactions: mostly making money out of money. On the other, side, non-Western countries are moving towards seeing wealth in terms of tangibles, especially energy, minerals and food.
For the last 40 years the advanced nations have progressively invented new forms of wealth for themselves as the necessities of life became easier to satisfy. The widespread availability of energy, massive improvements in food productivity and long-term efficiency gains in manufacturing meant that survival became much less of a challenge. It has been a world-wide phenomenon, one that gets too little attention. In 1981, more than four people in 10 lived below the poverty line; now it is less than one in 10.
On that foundation, it became possible for Western countries to invent new forms of money and value. It has consequently been easy to forget that all these intangible confections depend on the use of tangible resources. That is why the West was so confident about punishing Russia by causing the country’s financial collapse. America and Europe believed that Russia would be ruined when they were forced out of the Western-dominated financial system. But the country is not part of the global matrix. It had already been heavily sanctioned, so had become largely economically self-sufficient, and its main exports are fossil fuels and diamonds, which can easily find markets. The financial and economic attack largely failed.
Having been pushed outside the Western financial system Russia is making moves to align with non-Western countries. In July, president Vladimir Putin unveiled a plan for a new reserve currency based on a basket from: Brazil, Russia, India, China and South Africa (BRIC). These five countries represent about a fifth of world trade, although only six per cent of their trade is with each other. Russia is also looking to promote the use by members of its financial messaging system instead of SWIFT.
There are signs amongst the BRIC countries of greater interest in using such a basket. Saudi Arabia seems to be moving away from its commitment, which has been in place since the 1945, to have all its oil sales in US dollars. Riyadh has been in talks with Beijing to price some of its oil sales to China in the yuan rather than the US dollar.
It appears to be a threat to the so-called ‘petro-dollar’: the deal struck between President Franklin D. Roosevelt and Saudi King Abdul Aziz Ibn Saud that ensured American dominance of the foreign exchange markets and effectively the world’s financial system. That deal made the greenback, as the popular saying goes, the world’s reserve currency (‘reserve’ is a misleading term, though, because it implies that the US dollar is a store of wealth when in fact it is just one half of a cross border transaction).
'What it increasingly looks like is the West attacking the foundations on which its prosperity, and poverty reduction, is based. In the end, it may become evident to all that the financial emperor has no clothes.'
A lot has changed in 75 years. Oil is only a miniscule portion of global foreign exchange turnover. Instead, the foreign exchange markets are dominated by financial magic tricks, mainly gambles such as swaps on interest rates between two currencies and spot trades (same day trading). The Bank for International Settlements (BIS) has just released its triennial survey of foreign exchange turnover revealing that the daily turnover in April was $US7.5 trillion per day up 14 per cent from three years earlier. In 2019, annual sales of oil were only about $US211 billion.
The US dollar continues to be at the centre of the global financial system. According to the BIS survey the greenback was on one side of 88 per cent of all trades, unchanged from three years earlier. The share for the euro fell slightly to 31 per cent, the Japanese yen was 17 per cent, the pound 13 per cent and China’s renminbi seven per cent. The trading is mostly done in London, New York, Hong Kong, Singapore and Tokyo.
On the face of it, the BRICs countries are merely marginal players. They only account for 3.8 per cent of turnover (Australia’s contribution is more than double that at 7.6 per cent). Even if they do create a currency based on a BRIC basket it would not have a great impact, especially as the Chinese yuan is fixed to the US dollar, which would make it hard for China to break free.
Yet what the failed attempt to crush Russia’s economy has revealed is that America’s and Europe’s dominance of the global financial system is something of an illusion; more like money changing hands in a giant casino rather than actual wealth. Real stuff, especially resources, are, well, real.
What it increasingly looks like is the West attacking the foundations on which its prosperity, and poverty reduction, is based. In the end, it may become evident to all that the financial emperor has no clothes.
David James is the managing editor of personalsuperinvestor.com.au. He has a PhD in English literature and is author of the musical comedy The Bard Bites Back, which is about Shakespeare's ghost.
Main image: St. Basil's Cathedral on Red Square. (Getty images)