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War in Ukraine and global finance

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From Marcello Spanò and RWER issue 104 Let us now turn to the signals of changes that are emerging with the war in Ukraine. The field of analysis regarding the relation of the war with the breakdown of unipolarism and its transformation into a multipolar world is certainly vast and complex. Here we limit the analysis some relevant aspects connected to the centrality of the dollar in the international monetary system. If we examine the 25-year period prior to 2014, we can observe that the changes in the current account of the United States closely align with variations in the official reserves held by central banks worldwide. Since 2014, there has been a significant reduction in global dollar reserves. This has not resulted in a decrease in the US external deficit but rather a

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from Marcello Spanò and RWER issue 104

Let us now turn to the signals of changes that are emerging with the war in Ukraine. The field of analysis regarding the relation of the war with the breakdown of unipolarism and its transformation into a multipolar world is certainly vast and complex. Here we limit the analysis some relevant aspects connected to the centrality of the dollar in the international monetary system.

If we examine the 25-year period prior to 2014, we can observe that the changes in the current account of the United States closely align with variations in the official reserves held by central banks worldwide. Since 2014, there has been a significant reduction in global dollar reserves. This has not resulted in a decrease in the US external deficit but rather a transfer of US assets to foreign private entities. The decline in the accumulation of dollar reserves by central banks can be attributed to different factors. Firstly, there has been a decrease in oil prices and a reduced dependency of the US on oil from exporting countries, which has caused a decline in dollar reserves held by nations reliant on oil exports. Secondly, the Eurozone countries have progressively increased their foreign surplus or reduced their deficit due to self-imposed austerity policies in the decade following the 2007-08 crisis. This has led to a relative increase in the acquisition of US securities by private entities within the Eurozone. Thirdly, in the Asian region, although the current account surplus of Asian countries has remained stable, central banks began to halt the accumulation of dollar reserves around 2014 and started to decrease them from 2015 onwards. China, being the largest economy, played a significant role in driving these changes. In many Asian countries, institutional investors, such as life insurers and pension funds, seeking higher yields in a world of quantitative easing in Europe and strict fiscal policies in several surplus economies, have displaced central banks as the major buyers of U.S. government bonds (Setser, 2018).

From the perspective of the United States, the rising concentration of dollar-denominated assets into the hands of private entities in Asia can only be seen as a risk. On the one hand, the US are in front of a decline in consensus on their role as issuers of international currency, and on the other hand, they witness the rise of alternative hubs in global private finance that rival the dominance of the U.S. financial system. Therefore, the protectionist retreat of the United States that we have witnessed in recent years, first under Trump and subsequently under Biden, particularly in the context of the war in Ukraine, should not be interpreted as the result of unsustainable foreign debt or as a reaction to the acquisition of US stocks by capital accumulated by net creditor countries. Rather, it is the reaction to the gradual emancipation of new economic, industrial, and commercial powers, primarily China, from the hegemony of the dollar. The progressive reduction of the stock of US Treasury bills held as reserves by the Chinese central bank is not an adjustment of financially oversized quantities, but a deliberate act that has made dollar assets politically abundant. This has triggered the reallocation of financial assets that has endangered the centralization of capital in American hands, fueling US protectionist measures, or friend shoring. As previously underlined, placing excessive emphasis on the net (rather than gross) foreign position of the United States and simplifying geopolitical conflicts as a mere struggle between a (net) “debtor” superpower and its creditors may lead to distorted perspectives or a misinterpretation of causes and effects.

In this described scenario, the conflict in Ukraine, on the one hand, serves the purpose of furthering the US strategy to transition from a role as a global advocate for free trade to that of a protectionist leader of a smaller group of countries, urging allies to sever trade ties with non-allies, while being surrounded by continuously expanding emerging economies. On the other hand, the war has set in motion a sequence of events that could potentially undermine US hegemony over international financial markets.

By freezing $630 billion of Russian reserves and assets abroad and imposing an embargo on Russia’s access to the SWIFT international payment system in March 2022, the US has challenged a fundamental assumption that underpinned international trust in the dollar since the conclusion of World War II: the prompt fungibility of dollar reserves. As the international community realizes that the superpower has no intention of ensuring the solvency of its highly liquid obligations, which traditionally hold a top position in the hierarchy of all the financial instruments generated in the extensive realm of international finance, the inevitable result is a loss of trust, gradually unfolding at least among certain parts of the world.

Following this sanction measure, Russia has responded by requesting to be paid in rubles for the gas it supplies. The purpose is not so much to support the exchange rate, an objective that could have been achieved by continuing to sell fossil energy sources in dollars, but rather to escape the dominance of the dollar. More or less intentionally, Russia has denied the dollar the role of international unit of account, a function typically associated with a legitimate currency. It is worth recalling that the dollar as an international unit of account was safeguarded by an agreement dating back to the oil crises of the 1970s between the United States and Saudi Arabia, in which the former secured that oil prices would be denominated in dollars (thus anyone purchasing oil would need to acquire dollars), while the latter obtained military protection. The Russian decision breaks this tradition and, by rejecting the sovereignty of the dollar, asserts its own power policy. While it is true that Russia’s industrial capacity does not match that of the United States or China, it is equally true that Russia remains a country capable of providing its allies with both energy resources and military protection.

The fracture sets in motion the entire world system, which experiences a swarm of seismic shocks, as many countries seek to reorganize and redefine their strategic and commercial alliances. Saudi Arabia agrees to sell oil to China in exchange for Yuan, with which it purchases Chinese goods or holds currency reserves (ZeroHedge, 2022). India takes distances from the US sphere of influence by casting a non-aligned vote at the UN and enters into agreements with Russia to buy Russian weapons, paying for them in rupees, a currency that Russia will then use as reserves by purchasing Indian securities (Goldman, 2022). The group of BRICS countries gains an aura as a potential alternative geopolitical bloc to the Atlantic alliance, not limited to the Eurasian territory. The recent requests for membership (Argentina, Iran, Algeria) reveal how the group of countries representing a third of the world’s landmass (thus wielding enormous market power over natural resources and fossil energy sources), along with 40% of the global population and “only” 25% of the world’s GDP, has become an attraction for any country wishing to attempt to break free from dependence on the US “creditocratic” system. Even Saudi Arabia, as just emphasized, is not immune to the temptation.

Regardless of the fact that the outcome of these reorientations is still unpredictable, it seems possible to establish that the war in Ukraine has provided an accelerating push to various technical trials of detachment from the monetary, financial, and commercial circuit centered around the dollar (Sullivan, 2023).
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