De-dollarisation – a mega trend that will rejig the world order

The world we live in today is tumultuous and disorderly, to put it mildly. First, it was Covid that shut down large parts of the globe for a time, disrupting businesses, throttling manufacturing & service delivery, throwing supply chains in disarray and affecting commerce the world over.

When it looked like the world was normalizing, a war started in Feb 2022 between Ukraine and Russia, primarily because of the relentless expansion of the NATO to near Russia, even after the threat of USSR vanished after its collapse. Ukraine was a buffer state. When it looked like Ukraine may possibly apply for NATO membership, Russia was alarmed and invaded Ukraine.

See how US got Rattled when USSR put missiles in Cuba in the 1960s.

What looked like a local war that was expected to end in a couple of months, has now been going on for almost 14 months, with no sign of a cessation of hostilities!

This is in part due to the tacit support of the western powers to Ukraine which quickly became much more overt in terms of direct supply of ammunitions and war material to Ukraine. Before long, the entire NATO was supporting Ukraine and the war itself was a proxy war being fought between NATO and Russia.

To contain Russia and bring it to its knees, the US first froze the dollar/ gold assets of over USD300 billion held abroad, belonging to Russia. It also removed Russia from the SWIFT Network (a system for international banking transactions). The entire western cabal also sanctioned Russia massively to bring it to its knees.

The west thought that the arms supplies with Russia would exhaust in less than two months. Their surmise was that, with massive sanctions in place, Russia will not have money or supplies (especially Microchips) to make various missiles and other equipment. But, Russia seems to have an inexhaustible supply of missiles and other military equipment, which it using to devastating effect in Ukraine.

Unintended consequences  

But, what happened was completely unexpected. Europe was massively affected when gas supplies and crude exports from Russia tapered partly because Russia wanted to and partly because of the US sabotage of Nordstream pipeline carrying gas to Europe.

Europe themselves also tried limiting buying fuel & other products from Russia. The sanctions they had imposed disrupted the food & fertilizer supply chain, as Ukraine along with Russia were big exporters here. There were many more dislocations that Europe faced.

The result of all this was that the fuel prices shot up by 4-6 times (some of which US was selling and profiteering!) ratcheting up inflation to four decade highs in many countries. Many industries that depended on gas as a critical input were not able to function and some even shut down. Some shifted out of countries like Germany to other countries due to this disruption. Employment got impacted.

USA itself was not insulated from the war. It already had structural weaknesses even before that. US debt situation is bad. Government debt is over USD 31.5 trillion and overall debt at over USD 60 trillion is over 250% of the GDP! US Congress is debating about lifting the debt ceiling so that they can raise more debt, as there is no other option!

As a result, there was a major inflation in the US too. Employment was impacted here too. US was supplying a lot of war equipment & money to Ukraine – at last count it was over USD 120 billion! This became a source of discontent with US citizens as so much money was being shipped out to fund a war which did not seem worth being a part of. Then the Bank failures happened, which by itself has the seeds of a long drawn out crisis as many more are expected to fail going forward.

Russia by contrast, while affected, has not collapsed. The entire western blockade could not bring it to its knees. When US froze Russia’s dollar reserves & blocked it from SWIFT network, it proved to be a wake-up call for all in the world. That laid the seeds for dedollarisation.

See this video by Tucker Carlson, erstwhile at Foxnews to understand the consequences for US.

Also see this video on the changing world order by studying what has happened in the past, by billionaire Hedge Fund manager, Ray Dalio – Principles for dealing with the changing world order

What is dedollarisation?   

World trade happens to a major extent in US dollars. So when two countries trade, they first convert their currency into dollars and pay it to the other party, who in turn convert dollars into their currency. In this entire process, there is said to be a 2-3% overall charge, which is very expensive especially when the amounts are in billions and trillions of dollars. But dollar trade was happening all along without a hitch, in spite of this.

Various countries woke up to the stark reality that US could sanction them, block their assets and throw them out of the SWIFT system anytime it suits them – like it happened to Russia. That was a rude awakening.

Russia was the first one to explore trade in Rouble and in other currencies, as it had no other option. It started trading with China in Yuan, with India in a host of currencies like Rouble, Yuan, Dirham, Rupee etc. Unlike what the west thought, there were still many countries that were willing to trade with Russia. Many countries like Brazil, Saudi Arabia, Iran, Venezuela & even France have agreed or already started trading in yuan.

What started with Russia is becoming a major trend with countries seeking to trade in their bilateral currencies and even third currencies. This directly impacts the dollar’s salience and stature.

Countries typically hold dollars as part of their foreign reserves for international trade purposes.  If they start trading in other currencies, they need not maintain so much dollar reserves. Hence, many countries across the world (like Russia, China and even western allies like Japan, Taiwan, Ireland) are reducing their dollar reserves and are selling their US treasuries steadily. The gold holdings in their reserves are going up, at the expense of the dollar.

All these together reduce the usage of dollar in international trade.

Quite apart from this, there are other measures underway to find an alternative to the dollar. Euro is already there.  BRICS countries are trying to cobble up a currency that will be pegged to commodities like Gold, crude oil etc. as well as to the member country currencies. If that effort is successful, it will be another alternative that could threaten the dominance of the dollar.

There are many from the west who will dispute that dedollarisation underway can unseat the US dollar in any major way.

See this piece from Fed Reserve – https://www.federalreserve.gov/econres/ifdp/files/ifdp1359.pdf

Shekhar Gupta from The Print is skeptical too, pooh poohs dedollarisation itself and finds BRICS currency a fantasy.

While some acknowledge it cautiously – https://www.aier.org/article/de-dollarization-has-begun/

Palki Sharma has a different take .  Ruchir Sharma agrees that dollar will weaken .

Again, Ray Dalio, the Billionaire Fund manager of Hedge Fund of Bridgewater talking about America – Banking collapses, US Dollar & Recession…  https://youtu.be/lPYmD7CyHlY

Dr.Ankit Shah on Dedollarisation – a different viewpoint

US Dollar will be dead in 5-10 years by KITCO News

The Crisis of American power precipitated now due to the Ukraine war – https://www.youtube.com/watch?v=kelkjN38uss&t=10s

What will be the effect of this dedollarisation trend?  

As mentioned earlier, the total debt of US at about USD 60 trillion is over 250% of the US GDP (still US is rated AAA/ AA+ by most rating agencies!). The inflation is over 6% even now, which is unusually high. Government 10 year treasury note yields are about 3.4%. This means that US government will need to pay close to this rate to raise money, which pushes up its borrowing costs. For a government already sinking in debt, this is bad news.

Now, if various central banks are selling US bonds and treasuries, those dollars are going to come back to the US making it inflationary. Also, placing new US bonds becomes difficult unless the coupon rates are brought up, which again pushes up the borrowing costs.

The demand for new US bonds will be commensurately lower as many currencies would trade in bilateral currencies or other currencies and will maintain other currency reserves. Also, some of the reserves in the future by countries will be in the form of Gold, precious metals & other commodities.

The first step to find an alternative to the dollar would first start with bilateral trade in respective currencies and in third currencies. A new architecture will emerge sooner than later to replace the dollar based system fairly fast (within this decade itself is my guess).

This poses great difficulty to US Government, which is now staring at a vicious cycle of higher and higher borrowings. There does not seem any solution to this conundrum. But, they will have less and less people willing to buy US treasuries/ bonds.

This is not sustainable and will be inflationary as well. High inflation and high interest rates will push the economy into recession as businesses will find it difficult to operate. Also, this can result in dollar debasement and devaluation against other currencies. This can make imports costly for the US citizens which again feeds inflation, adding fuel to a vicious cycle.

US has been in a unique position to borrow money for close to eight decades. It has just been printing paper currency and buying actual goods for decades. The prosperity in the US is the result of the actual savings of people all across the world, coming to the US!

US is hence too very dependent on the dollar for its prosperity. The dollar hegemony has allowed it to claim the super power status, allowed it tremendous resources for its government, its people, military, to wage wars, project power, give loans to other countries etc. All these gave it tremendous heft and geopolitical leverage. Remove the dollar and US loses its power, might and sheen. That is why dollar is such a big deal for the US.

When the dedollarisation gets truly underway, it is possible that companies and even entire ecosystems like the silicon valley ecosystem, relocate across the globe wherever it happens to be conducive. Research centers of MNCs are already present across the globe and more will shift internationally. This will shrink job availability in the US. Jobs will be lost and can well plunge a big swathe of the population into joblessness, chaos & poverty.  Massive migration of US origin people is expected to happen across the globe in search of livelihoods. Massive amounts of wealth will also move internationally into all kinds of assets.

High quality education institutions is one of the biggest advantages that the US enjoys. If US is no longer a place that can offer jobs and careers, it will become a much less attractive destination. US colleges will also open satellite centers across the globe in a bid to survive and to take advantage of the new reality.

It is difficult to predict how soon these things can happen. However, my view is that much of this will happen within the next 5-10 years itself as we are in a world where the velocity of change has gone up massively. This is bad news for the world as US is not going to take things lying down and can create major chaos in the world when it goes down. This is a major danger for the whole world.

Effect of this on our investments and what we can do about it?

Dollar debasement will result in a search for other assets across the globe. Since the dollar based financial investments are so huge, the search for alternatives will drive up the prices of all kinds of assets across the world.

Equities across the world will move up, especially those that do not have a dollar dependency will get a lift. Entire companies may get snapped up! This will happen even more prominently in economies which have a good consumption base like India.

Gold and other precious metals may be a place where a portion of the money will flow into. Gold and Silver particularly are expected to start moving up smartly. This will be a long term trend which we may have to factor from now on in our portfolios.

Money could move into commodities and assets that invest in commodity extraction or manufacturing companies. Hence, further allocation to precious metals (maybe even commodities) need to be looked into, considering the tectonic shifts happening in the global finance system itself.

Global Real estate is another place the money will flow into. This will lift the prices of residential, commercial properties, land parcels, farmland, hotel & resorts etc. all across the globe. Rentals can go up too if the asset values go up (though this is a factor of the demand for the underlying property). This will happen in India too due to NRIs.

NRIs in the US/ US Citizens of Indian origin may start arriving in India for better prospects over the next several years and they bring investments as well as buy property across the country for self-consumption as well as for investment purposes. This may look very far-fetched for now – but has a reasonable chance of happening. Such investments can start happening soon, well before they may take the decision to relocate.

Money could also move into novel and exotic investments, including alternate asset classes that include crypto currencies.

This how it looks to me for now. My assessment can be wrong as there are just too many angles to a major shift like this. Time will tell. But, at least you might have gained some perspective about it.

We will need to start recalibrating the portfolio based on this assessment (if you agree and want to) and tweak the same based on the unfolding events and the effects upon the world. One of the things we can certainly do for now is to increase the precious metals allocation in the portfolio for a start. Rest, we can wait, watch and action in the future.

These are quite uncertain and very turbulent times… but it will certainly be interesting!