- - Tuesday, July 22, 2014

Lost behind the tragic headlines of recent weeks was an event of potentially historic importance to the reign of “King Dollar.” For some time, the coalition of Brazil, Russia, India, China and South Africa (known as BRICS) has been talking about staking a competitor to the International Monetary Fund (IMF). Last week, they announced a $100 billion capitalization of a Contingent Reserve Arrangement for BRICS‘ New Development Bank, with an initial $50 billion fund, $10 billion coming from each of the five members. Its headquarters will be in Singapore.

BRICS has been complaining about the restrictions on world trade imposed by the Bretton Woods (NH) Agreement of 1944, which established a new international monetary system dominated by the United States. American influence was reflected most notably in the designation of the U.S. dollar as the world’s reserve currency along with its development institutions, especially the IMF.

The BRICS complaints ranged from moral objections to U.S. perversion of its reserve currency status, namely that the U.S. has been printing money to fund its budget deficits for two generations. There are also many more practical objections, such as the threats of default on U.S. obligations to foreign holders of U.S. bonds — which would cause a collapse of the dollar and a worldwide depression.

BRICS has also bridled at the lack of developing nations’ influence on international trade and currency valuations. For example, the top five members of the IMF (USA, Japan, Germany, France and the UK control nearly 40 percent (39.4 percent) of all the voting rights of the 188 member organization. China has 4 percent. Perhaps even more significant is the fact that all the standards for lending, reporting, national solvency and balance of trade are set and enforced according to the American philosophy of taxation, government spending and rule of law.

China is the primary mover of BRICS. 70 percent of BRICS‘ combined GDP comes from China and 41 percent of the eventual $100 billion capitalization of the Contingent Reserve Arrangement (CRA) will come from China. From its rhetoric, it is clear that this alliance is intended to eventually construct an alternate world financial system dominated by China to supersede or replace the Bretton Woods international monetary system and the U.S. dollar. China has been scheming to have its currency, the Renminbi Yuan (called the Yuan), declared a reserve currency.

How important is the New Development Bank to the U.S.? Today, it is not in itself a serious threat to the dollar. In years to come, however, it could evolve into a game-changer for the U.S. Together, BRICS represents over 25 percent of the world’s land, about 40 percent of the world’s population and about 17 percent of the world economy (Los Angeles Research Group, July, 2014) as well as 50 percent of the world’s growth in GDP over the past 10 years, (Aljazeera America, 21 July 2014). BRICS‘ combined 2014 GDP ($10,971.6 trillion) is nearly that of the US ($14,657.8 trillion) and the EU ($16,282.2 trillion) and is expected to surpass the combined US and EU GDP by 2020. (LARG, July, 2014).

One reason that BRICS is not a major threat to the USA at present is that there is no lack of tension between the various members. This is particularly true of India, with which China shares a long and long-disputed border. However, the latest news from that quarter is that a settlement is at hand, announced by the foreign ministers of both countries in a joint statement.

This is highly significant, because these territorial disputes have kept the military forces of both countries on alert since the brief Sino-Indian War of 1962. Speculation is that China has decided to settle with India in view both of its new optimism about BRICS and to avert the possibility of an attack from the rear as it faces its challenges in the south, especially with the U.S. allies Japan, Vietnam and the Philippines. It also creates major development opportunities for both countries, together home to 1/3 of the world’s population. As Chinese Foreign Minister Wang YI said, “China-India cooperation is like a massive buried treasure waiting to be discovered.” (Bloomberg, Jun 10, 2014)

Another member of BRICS to watch is Russia, and how it will react to China’s aspirations. The two countries share the sixth longest international border in the world (2706 miles), and both have a crucial need for the energy resources in a Central Asia territory which has been disputed for centuries. As the world is discovering in Crimea and Ukraine, Vladimir Putin apparently has the goal of reestablishing Russian hegemony over the lost territories of the former Soviet Union. The lands claimed by China in past years and sorely needed now lie within the former Soviet Union. At some point, the future of this relationship will become rocky at best.

The nearer term threat of this BRICS activity stems not from the BRICS countries directly but as a sign of the gathering anti-Bretton Woods sentiment, even among our allies. Prominent in this arena is the outspoken IMF Managing Director Christine LaGarde. She apparently favors a new international monetary system based on the IMF’s Special Drawing Rights (SDR) to replace the dollar’s exclusive status as the world’s reserve currency.

An SDR is like a line of credit secured by a savings account in the name of the depositor, in this case each member nation. That nation has the right to draw down an amount of money (called “quota”) based on its contribution to the International Monetary Fund itself. The Fund, in turn, is authorized to loan money from that Fund to countries which need cash for various reasons, ranging from pending default on its sovereign debt to converting its own currency to a standard medium of exchange for trade purposes, i.e. the dollar.

The IMF uses a “basket of currencies” to determine how many dollars are to be transferred to the recipient. The “basket” consists of the Yen, the Euro, the Pound Sterling, and the Dollar.

Dr. LaGarde’s idea is to add the Yuan to the “basket” and then treat any of these five currencies as legitimate reserve currencies for international transactions at the valuation determined by the IMF. This, of course, converts the dollar from “one of a kind” to “one of several” — with additional currencies to be added to the list as authorized by the IMF.

Dr. LaGarde is not alone and her position is nothing new. As the French finance minister (2007-2011), she made her views well known. The fact that she was still chosen to become the managing director of the IMF indicates that her views have very significant support — from China to France. She emphasized her view by welcoming the BROCS Contingent Reserve Arrangement, thereby giving it a measure of international legitimacy.

She says in her statement to them:

“I would like to congratulate you … on establishing the Contingent Reserve Arrangement. IMF staff would be delighted to work with the BRICS team dedicated to this project with a view to reinforcing the cooperation among all parts of the international safety net intended to preserve financial stability in the world.” (IMF Press Release No. 14/349 July 16, 2014)

Needless to say, any hasty actions to replace or degrade the position of the dollar as the world’s reserve currency could be catastrophic for the USA. At the same time, the emergence China and BRICS, with the overt support of many of the 188 countries of the IMF are clear signals that significant changes are inevitable and at hand. One must have confidence that the Americans will be successful in negotiating a soft landing for the dollar.

Or the USA will be the next Greece.

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