Dedollarization

The unreported story in the Russian invasion of Ukraine has to do with what we and many others have called the weaponization of the American dollar. Given that the dollar is the international reserve currency and that most countries hold foreign reserves in dollars, the great minds of the Biden administration decided that they could confiscate said dollars, the better to show how tough they were. 

The result has been that other countries, led by China, have been hard at work dedollarizing their assets, buying Saudi crude with yuan, for example. Dare we say that this endangers the Republic far more than the antics of Putin and Zelensky.

Anyway, Rana Foroohar has a good column about it in the Financial Times:

While China has for some time been buying increasing amounts of oil and liquefied natural gas from Iran, Venezuela, Russia and parts of Africa in its own currency, President Xi Jinping’s meeting with Saudi and Gulf Co-operation Council leaders in December marked “the birth of the petroyuan”, as Credit Suisse analyst Zoltan Pozsar put it in a note to clients. According to Pozsar, “China wants to rewrite the rules of the global energy market”, as part of a larger effort to de-dollarise the so-called Bric countries of Brazil, Russia, India and China, and many other parts of the world after the weaponisation of dollar foreign exchange reserves following Russia’s invasion of Ukraine.

What does this mean?

What does that mean in practice? For starters, a lot more oil trade will be done in renminbi. Xi announced that, over the next three to five years, China would not only dramatically increase imports from GCC countries, but work towards “all-dimensional energy co-operation”. This could potentially involve joint exploration and production in places such as the South China Sea, as well as investments in refineries, chemicals and plastics. Beijing’s hope is that all of it will be paid for in renminbi, on the Shanghai Petroleum and Natural Gas Exchange, as early as 2025. That would mark a massive shift in the global energy trade. As Pozsar points out, Russia, Iran and Venezuela account for 40 per cent of Opec+ proven oil reserves, and all of them are selling oil to China at a steep discount while the GCC countries account for another 40 per cent of proven reserves. The remaining 20 per cent are in regions within the Russian and Chinese orbit.

And, by the way, the Chinese have chosen to make the yuan convertible into gold:

Perhaps, although the oil marketplace is dominated by countries that have more in common with China (at least in terms of their political economies) than with the US. What’s more, the Chinese have offered up something of a financial safety-net by making the renminbi convertible to gold on the Shanghai and Hong Kong gold exchanges. While this doesn’t make the renminbi a substitute for the dollar as a reserve currency, the petroyuan trade nonetheless comes with important economic and financial implications for policymakers and investors.

While everyone is cheering Zelensky, the real war is being fought elsewhere. 

Already, there are fewer foreign buyers for US Treasuries. If the petroyuan takes off, it would feed the fire of de-dollarisation. China’s control of more energy reserves and the products that spring from them could be an important new contributor to inflation in the west. It’s a slow-burn problem, but perhaps not as slow as some market participants think.