BRICS New Development Bank Threatens Hegemony Of U.S. Dollar
BRICS New Development Bank Threatens Hegemony Of U.S. Dollar
As each country acts to maximize its own utility, the emerging economies of the BRICS nations will create a paralleling international financial system ultimately challenging the hegemony of the current western-dominated system.
At the 2014 BRICS summit in Fortaleza, Brazil, the committee announced its impatience with failed reform within the International Monetary Fund: “We remain disappointed and seriously concerned with the current non-implementation of the 2010 International Monetary Fund reforms, which negatively impacts on the IMF’s legitimacy, credibility and effectiveness.” Leaders of the emerging economies of Brazil, Russia, India, China and South Africa (BRICS) have expressed the need for reform in the Bretton Woods institutions. Collectively, BRICS account for nearly $16 trillion in GDP and 40% of the world’s population. These countries have drafted amendments to the IMF’s voting policy and have yet to receive a sufficient number of votes. At the summit, Brazilian President Dilma Rousseff stated the BRICS nations “are among the largest in the world and cannot content themselves in the middle of the 21st century with any kind of dependency.” Last June, Sergey Glazyev, Vladimir Putin’s chief economic advisor, published an article outlining the need for an international anti-dollar alliance. He called upon allies to eliminate the dollar from international trade and trend toward depleting them from currency reserves. Recent dollar-less BRICS energy deals, currency swaps and foreign direct investment indicate that trend is taking place.
This year’s summit marks the establishment of a $100 billion dollar liquidity reserve and a $50 billion New Development Bank (NBD) in Shanghai. As each country acts to maximize its own utility, the emerging economies of the BRICS nations will create a paralleling international financial system ultimately challenging the hegemony of the current western-dominated system.
New Development Bank and Contingency Reserve
On July 15, the leaders of BRICS signed the articles of agreement for the NDB, and a treaty for the establishment of a contingency reserve arrangement (CRA) in their first effort to balance the world financial order. While the CRA is intended to relieve liquidity pressures in times of crisis, the bank will be used to facilitate infrastructure investment and promote sustainable development in nations facing financial constraints—something the BRICS nations believe needs more international capital than it is receiving. The CRA is a $100 billion enterprise with initial capital contributions reflecting each countries stake in global GDP. The bank will start with an initial paid-in-capital of $50 billion, each BRICS country contributing $10 billion.
These shares of capital stock in the NDB not only represent equity of the contributing member, but represent a country’s direct representation in decision-making. However, it should be noted their balance-of-power initiative is not present in governance in either financial instrument. Because eventually all United Nations will be eligible for membership and borrowing, the agreements specifically outline the terms of future earning of stock. The articles explain that a country’s increase in capital share must be agreed upon by all founding countries, the BRICS capital share must never fall below 55 percent, and a non-founding member may never increase above 7 percent. Additionally, the paid-in-capital, or reserves, are planned to be denominated in each country’s currency. However, there is no requirement preventing a country from swapping its currency with another. In the beginning years, the administrative positions of the NDB and CRA will rotate among the founding members. After other countries purchase membership an elected Board of Governors will cast equal votes to determine ranking leaders. The first president of the bank will be appointed by India; the first chairman of the Board of Governors will be Brazilian; the first chairman of the Board of Directors will be Russian; the first regional bank will be in South Africa; and the headquarters will be in Shanghai.
BRICS’ frustrations with the current system suggest political gridlock inspired these new enterprises. Interestingly, they did not set the example in a global balancing of power within the financial institutions, but rather the balance of power within BRICS themselves. However, what does separate them from their international financial counter-parts is the capital invested equals the votes received. While it will be difficult to sway votes as a coalition of non-founding members, there will be less financial stake. I believe regardless of internal power distribution, the BRICS NDB will decentralize global economics by paralleling the current institutions.
Growing impatience within the current western-dominated system sparked this new financial order. But why? At the end of World War II the Bretton Woods conference marked the world’s first attempt at international monetary order. Among the 44 allied nations, the majority of the negotiators agreed that the period between the World Wars demonstrated the disadvantages of floating currency rates. International trading and investing was fairly weak during the 1930s, largely due to lack of confidence. Still, most negotiators at the conference were reluctant in returning to the truly permanent fixed rate model like the 19th century gold standard. What emerged was the “pegged rate” currency regime in which national currencies entered into a currency market. So, through the compromises and deliberations of modern economist, John M. Keynes and Harry D. White, the IMF and World Bank were born.
Voting power within the institutions was derived from a quota formula. It is a weighted average of GDP (.5), openness (.3), economic variability (.15), and international reserves (.05). In addition giving the ultimate veto power only to the U.S., this formula gave increasing control to the global economic powerhouses at the time. This voting system was justified because when the conference took place, the economic powerhouses were consistently lending, and inconsistently borrowing; therefore, they argued to have a larger say in monetary decisions. Embedded in this logic was the notion that any country transforming itself into an economic powerhouse with the stability of being a consistent lender versus a consistent borrower could expect to see their voting power shift, giving them significant stake in global economic decision-making. However, despite having the second largest economy, China is still unable to become a top five shareholder in the IMF. Canada has more influence than China. Belgium has more influence than Brazil. As of now, the top five shareholders are the U.S., Japan, Germany, the United Kingdom and France. Collectively they hold nearly 40% of the voting power. One of the implicit rewards of the Bretton Woods institutions is the chance to become a significant partner and actively participate in the governing of capital. But, failure to implement the 2010 amendments has proved that the emerging economies of the BRICS are moving faster than political reform.
In 2010, the IMF’s Board of Governors supported amendments to the quota formula, which would shift 6% of votes from over-represented countries to under-represented countries and increase the allocated Special Drawing Rights (SDR) for emerging economies. Upon the update in 2010 the IMF stated, “The major realignment in ranking of quota shares under this reform will result in a Fund that better reflects global realities.” However, for them to take effect they need a favorable 85% vote. As of September 5 of this year, the amendments have received a 77% favorable vote. The U.S. is among those who have not voted favorably. Representation and balance of power is extremely important in institutions with the clout of the World Bank and IMF. An imbalance of power in a diplomatic setting of this magnitude exposes the risk of imposing some countries political agenda at the expense of others. Let us take a look at three historical examples.
1. In the 1970s and 1980s, IMF loaned Mobutu Sese Seko, dictator to the Democratic Republic of Congo (then Zaire), several hundred million dollars. Mobutu was possibly the most flamboyant and heinous dictator of his time and during his kleptocracy, despite the country’s vast amount of resources, nearly 70% percent of his citizens lived in absolute poverty. Not only was Mobutu seen as an important anti-communist ally by the West, he was crucial to the U.S. initiative to overthrow the Popular Movement of the Liberation of Angola (MPLA) in Angola. Very few, if any, investment projects were funded during the time of the IMF loans—nevertheless, loans were continuously granted by the IMF. Genocide was committed between warring clans, and for years there was little initiative by Mobutu or any other government to stop it. Mobutu squandered millions of his loans on lavish palaces around the world and left the bill to public debt. When Mobutu was exiled in 1997, Congo’s debt was nearly $13 billion which the country is still repaying it.
2. In 1968 Robert McNamara became president of the World Bank. He argued that the Philippines held such strategic military importance that it was imperative to increase their relationship with the World Bank. In The World Bank: First Half Century, historians shed light on the issue:
“McNamara and his staff were annoyed at the way the Philippines legislature was stalemating policy reforms. Thus the Philippines was an instance in which martial law triggered the takeoff of Banking lending. Marcos dismissed the legislature and started ruling by presidential decree in August 1972. McNamara and the Bank staff welcomed the move.”
After securing his seat, Dictator Ferdinand Marcos removed the country’s parliamentary decision to cap public debt at $250 million. Over the next decade the Bank granted Marcos loans totaling $1.25 billion for structural adjustments, intended to increase manufacturing capacity and renovate ports. This was a product of the Bank’s favor of the export-oriented industrialization led by the regime. Each loan was directly deposited into Marcos personal Swiss bank account and never used for such adjustments. In 1981 foreign private banks stopped crediting Pilipino banks, yet the World Bank extended another $600 million loan that paralleled the public debt the Philippine tax payers are still repaying.
3. In 2010, Greece became the first Eurozone economy in need of a bailout. And, after a 2012 recession of high interest payments, the country needed yet another international bailout. In June 2013 the IMF released an official report admitting it sacrificed its own policies in an effort to coax the public debt of Greece, and make it appear more sustainable. The official report states that the second bailout gave the European Union “time to build a firewall to protect other vulnerable members, avert potentially severe effects on the global economy,” and that Greece had failed on three out of four of its criteria to be eligible for aid. However, that contrasts statements by senior IMF officials in 2010 asserting Greece’s debt obligations were “sustainable” and to be paid in “reasonable time.” Also in the 2013 report, the IMF stated that “even with implementation of agreed policies, uncertainties were so significant that staff were unable to vouch that public debt was sustainable with high probability.” This sacrifice speaks to the IMF’s impartiality. I believe the rules were bent to keep Greece in the Eurozone, though not so much for Greece’s sake, as much as the sake of the euro. As the recent global financial crisis hit Portugal, Italy and Spain, other countries in dire-straits may have followed Greece back to their own currencies. This, of course, would be a detriment to the value of the euro, one component of the IMF’s quasi-currency, Special Drawing Rights.
Balancing power within the Bank and the IMF is among the political gridlock that has given birth to this financial initiative. However, recent political turmoil in countries such as Libya, Syria and Ukraine also have some BRICS nations wanting to abandon the dollar altogether. The mere establishment of the NDB and the CRA decentralizes some global financial power; however, recent energy and currency swap deals suggest that the trend of an anti-dollar alliance is well under way.
The Russian Agenda
As mentioned, Sergey Glazyev published an article in the Russian Argumenti Nedeli outlining Russia’s plan to crash the dollar system. This comes from the belief that the U.S. is using the IMF and its powerful currency to conspire with militant groups around the globe and ensure that it remains the financial safe haven of the world. He states:
“The First and Second World Wars, which caused a huge outflow of capital and minds of the warring European countries to America… the collapse of the world socialist system, which gave the United States the influx of more than a trillion dollars, hundreds of thousands of professionals, tons of plutonium and other valuable materials, many unique technologies. All these wars were provoked by the active participation of the American “fifth column” in the face of controlled, funded and supported by the American special services spyware, tycoons, diplomats, government officials, businessmen, experts and public figures. And today, faced with economic difficulties, the United States are trying to unleash in Europe another war to achieve the following goals.”
In an effort to unleash that war, Glazyev believes the U.S. is using the war in Ukraine to puppet its goals. This past May, Victoria Nuland, Assistant Secretary of State to European and Eurasian Affairs, was accused of meeting with the Svoboda political party in Washington. In the past, the Svoboda has been accused of fascism and anti-Semitism. They lead the militant protest in Ukraine and have since received a $5 billion stimulus from the U.S. State Department to “achieve U.S. goals in Ukraine.” Glazyev claims this is the same militant group who has “engaged in mass murder of its’ citizens.” He goes on to describe the illegal takeover of Kiev by the militant group. And, once peace deliberations had disarmed groups within the conflict zone, “Vice President Biden arrives in Kiev to support the actions of the junta.” Glazyev believes the U.S. is using the protest as bait to provoke Russian intervention.
Russian intervention into a sovereign nation gives the U.S. and NATO ally’s right to impose financial sanctions and write-off American commitments to Russian entities, which Glazyev estimates is in the several hundred billion dollar range. The freezing of these assets in dollars and euros will prohibit the Russian owners to service their debt, which lies mostly in European banks. He predicts this destabilization in Europe will cause many banks to borrow from the U.S. to avoid filing bankruptcy, thus, again making the U.S. a global financial safe haven, as well as a diplomatic ally to Europe. In addition, Glazyev believes this is an effort to displace Gazprom from the European market and cripple the nuclear supply of European power plants. This would force Europe to purchase nuclear inputs from the U.S., a further dependency. Well, Glazyev was right. In September, the U.S. and EU imposed sanctions on Russia targeting state-run oil and gas companies—among them—Gazprom.
In December of 2013, Victoria Nuland addressed members of the U.S.-Ukraine Foundation at a Washington forum, assuring them there are “prominent businessmen and government officials who support the U.S. project to tear Ukraine away from its historic relationship with Russia.” In her speech she explained the state department spent $5 billion in the last two decades to subvert Ukraine. Protestors told reporters at the Global Research Centre they had received payment in dollars and euros to protest against the Ukrainian government. Though, what is equally interesting is the biggest sponsor of the event: Chevron. In fact, Chevron has a significant economic interest in Ukraine and Russia. Its latest Russian investment, the Caspian Pipeline Consortium (CPC), was a mere $2.7 billion dollar construction that will transport oil from Northern Russia throughout Eurasia. Along with Russia and Kazakhstan they are among the top three equity shareholders of the CPC. In addition, Chevron owns two subsidiary companies in Russia, Chevron Neftegaz and Chevron Oronite. Despite sanctions imposed on state-run energy organizations like Gazprom, Chevron is unaffected.
To counter the conspiracy, Glazyev is calling on Russia and its allies to target the Federal Reserve: “Washington’s funding for the U.S. war machine.” To do so, he seeks to establish an anti-dollar alliance, a coalition of countries willing and able to drop the dollar from trade and currency reserves. The first establishment, although not a country, was none other than Gazprom. In a Reuters interview, Gazprom’s CEO, Alexander Dyukov, assured “practically all—95% of our customers—confirmed their willingness to move to settlement in euros.” The second partner to join Glazyev’s coalition is China.
In early October 2014, Russian and Chinese leaders met in Moscow and signed 40 inter-governmental agreements. Among them, a $24.4 billion yuan-ruble currency swap facilitated by the CRA and a $400 billion natural gas deal. The swap is among the first concrete steps BRICS has taken to eliminate the dollar from international trade; the natural gas deal is the second. In the provisions of the gas agreement, Russia will export 38 billion cubic meters of gas to China over the next 30 years in exchange for $400 billion dollars. But for the first time, this energy trade will not be done in dollars, but rather Russian rubles and Chinese yuan. This monumental economic exchange between the two countries is not unprecedented. Dimitry Medvedev, Russian Premier, told reporters “over the past six years Russia’s trade with China has almost doubled from $40 billion to $90 billion.” As China gradually becomes the global economic powerhouse, Russia is glad to have them partner in their anti-dollar initiative. Though, prudent Chinese investments suggest China’s motivation is purely economic. And, as China internationalizes its currency throughout Asia and Latin America, it challenges the hegemony of, not only the dollar, but the IMF.
China’s Latino Marshall Plan
As argued by Glazyev, among the United States’ most beneficial loans was its post-World War II stimulus known as the Marshall Plan. In the noble lend to rebuild the crumbled European states, not only did the U.S. earn diplomatic relationships that have proven to last three-quarters of a century, but the nation became the global financial safe haven. Complemented by a thriving economy and extensive global trade, the dollar has proven to hold enough strength to be the global reserve currency for nearly 90 years. Latin America certainly isn’t climbing out of a world war, but its developing economies have analogous potential for growth. As China puts its yuan in Moscow for short-term energy deals, it is making long-term investments in Latin American infrastructure and resources. In March, Chinese premier Li Keqiang set forth a $160 billion infrastructure investment project to rebuild Chinese urban housing and renovate irrigation in the countryside. After the world’s second largest economy has experienced a slowdown, the Chinese government has picked up the tab with a stimulus package aimed at boosting China’s consumption. Liu Ligang, chief China economist, told a reporter that the Chinese government “wants more consumption and less state investment” and the colossal stimulus injection will certainly boost Chinese “consumption of copper and iron ore.” Among the heirs to China’s consumption will be BRICS partner Brazil and current trade partner Peru, both lead exporters of mining resources. However, China’s indirect investment into their colleague’s economy isn’t the only financial impetus. According to the United Nations Economic Commission for Latin America and Caribbean (UNECLAC), China’s investment into the region was a record $11.4 billion in 2012. That is an unprecedented spike from 2004’s measly $120 million investment which is just a fraction of the $102.2 billion they have invested since 2005, according to a study by Boston University. For China, this is an especially advantageous time to internationalize their currency. As developing economies in Latin America are experiencing growth, let us a look at four key projects to China’s Latino Marshall Plan.
1. China’s Latin American investment seems to be in the $100 billion range and the largest beneficiary of that stimulus is Venezuela. China has racked up an accounts receivable from Venezuela of nearly $36 billion in the last decade and the debt is being serviced in exported crude oil. In September of 2013, Chinese state owned Petroleum and Chemical Corporation invested $14 billion into the Venezuelan state-owned oil giant, Orinoco. Coincidentally a few weeks after, China National Petroleum Corp. invested another $14 billion. China’s stake in Venezuelan oil is over $28 billion dollars to date as 60% of Venezuelan oil is exported to Beijing to pay off its debt. This will prove to be a prudent investment, especially after this year’s OPEC announcement that Venezuela holds the largest oil reserves out of any country in the world. China tightens its grasp on international trade as it increases its influence throughout Latin America. The investment is proving to be rewarding as the Venezuelan oil giant yields approximately 1.2 million barrels of oil a day—which it claims could jump to 2 million by the end of next year.
2. In addition to Venezuelan oil, China is partnering in yet another economic opportunity with its BRICS partner, Brazil. According to Oil and Gas Journal, Brazil recently auctioned off rights to explore its deep water Libra site and two Chinese firms partnered with the state-owned Petrobas to do so. Experts estimate the site holds nearly 12 million barrels of oil, enough to supply the world for 3 months. The conglomerate invested $500 million this year, but it is unclear exactly how much of the portion belonged to China.
3. Among its natural resource endeavors, China recently purchased the rights to Las Bambas copper mine in Peru. The Peruvian Ministry for Energy and Mining reports Peru is the second largest exporter of copper in the world and the fifth largest exporter of gold. China’s MMG purchased the rights for $5.8 billion which gives China claim to one-third of Peru’s mining sector. China is to assume management and operations in early 2015.
4. The final development China’s stimulus is creating will enhance their trade with the rest of the world, perhaps matched historically only by the Silk Road. Chinese enterprise Hong Kong Nicaragua Canal Development Investment is set to break ground on a canal connecting the Pacific to the Atlantic this month. The $40 billion contract not only gives rights to the Hong Kong-based investment group to build, but manage the canal for the next 50 years as well. Jean Paul Rodrigue, transportation expert at Hofstra University, claims the project will cost more than $40 billion and that it will be a “colossal waste of resources.” However, in light of the infrastructure investments and expected commodity exports from South America, China seems to not only be attempting to circumvent the dollar, but U.S. controlled transportation in Panama, as well.
It is clear that China is asserting its dominance as an international trade partner. As its economy grows, China is finding few reasons to take no for an answer and more ways around the West and their sanctions. Through dollar-less energy trades, unprecedented currency swaps, resources grabs, foreign direct investment, and establishment of new trade routes, China has its hand in a diverse portfolio of promising global capital. Whether the West recognizes it or not, China is making friends in every corner of the globe, too. This portfolio suggests China’s allegiance to crashing the dollar is an economic interest.
While BRICS and their financial order won’t crash the dollar overnight, but it is still fair to suggest the trend is taking shape. Whether formed with malicious intent or economic interest, the global political and financial implications are serious. Removing the dollar as global reserve status will be detrimental to the U.S. economy if austerity measures are not implemented. To remain competitive, the U.S. should invest in new energy solutions and become a net exporter of energy. If the dollar begins to significantly depreciate I propose the establishment of an international Special Drawing Right bond market composed of multiple currencies replace the declining U.S. Treasury bond market as the global reserve.
In light of China’s massive appetite for energy, Russia’s potential as a world-leading energy export, and both circumventing the dollar, the dollar’s reserve status is potentially dwindling. To combat this trend, the U.S must become a net exporter of energy. Investing in new energy solutions is imperative to compete in the future global market. And, if the dollar does depreciate, U.S. energy exports will be more competitive. The current U.S. net import makes it vulnerable to voracious energy giants like the opposing anti-dollar alliance. This negative export in energy is adding to the U.S. trade deficit, a deficit that has been coupled with the burden of holding the dollar as the global reserve currency.
There are advantages and disadvantages for the country that uses its currency for the global reserve. Yes, reserve status permits discounted borrowing of loans. And, central banks of other countries must hold dollars in reserve to facilitate trade, in turn appreciating the dollar. However, this burden aids the reserve country with running a trade deficit in perpetuity, which has taken place in the U.S. But, assume the dollar remains reserve status and simultaneously the U.S. runs a trade surplus. The Triffin dilemma then suggests the dollar would appreciate in value and the rest of the world would suffer from a lack of liquidity and collateral. At the current deficit the U.S. is culminating more debt and risking default. The economies of the globe are experiencing unprecedented growth and to stabilize future growth a nation’s currency should no longer be the reserve. To replace a nation’s single currency, I suggest the IMF and NDB create a Special Drawing Right bond market comprised of the leading global currencies that eventually replaces the diminishing U.S. Treasury market from the global reserve.
Special Drawing Rights (SDRs) were created in 1969 by the IMF to combat the dollar crisis when the U.S. completely left the gold standard. As of now, they are composed of the leading currencies: the dollar, euro, yen and pound. Each member of the IMF is allocated a certain amount based on their stake in global GDP. They are an interest-bearing, international asset. Countries are allowed to freely exchange them amongst themselves for hard currency. When holdings rise above allocation, a country earns interest on the excess. Conversely, if a country sells more SDRs and has fewer than allocated, that country pays interest on the shortfall. This market of SDRs would eventually be comprised of the BRICS and IMF’s largest economies. I expect the Chinese yuan and possibly the Russian rubble would join the dollar, euro, yen and pound in IMF SDRs.
Having a global currency composed of multiple currencies is advantageous to the global economy in several ways. Much like diversified portfolio risk, the risk of losing value in currency reserves shrinks. The value of all SDR bonds would be the same and as the value of a currency increases, the value of the bond increases. Equally, if the value of a currency decreases, the value of the bond decreases. By removing one single country from the global reserve status, global finance is decentralized. This levels the competition and encourages countries to create and export value. If American competitive advantage is no longer U.S. currency loans, the economy will rely heavily on production—which is advantageous for economic growth.
Similarly, I expect the BRICS nations would eventually create global reserve bonds for their new international institutions. These bonds, in addition to IMF SDR bonds, would be the liquidity instrument of the globe which could be bought, sold, and traded internationally, creating stability in the global economy. Each currency unit within the SDR would be weighted to that country’s relative GDP size and strength. After all, the legal tender and economic strength are the value of these currencies. This revolution of global currency would require open audits of the participating governments, a system of checks and balances in which transparency between global trading partners ensures stability, and confidence in the market.
While an anti-currency alliance might not be the answer, we still need to find a way to balance financial order.