BRICS 2

Back on September 7, 2022, we wrote about the beginnings of a movement known as BRICS (Brazil, Russia, India, China, and South Africa) in an article titled BRICS and Yen.  We also did an earlier financial article on July 25, 2022, titled Far Away Events Matter.  In both articles we cautioned that China and Russia were spearheading a movement to transition away from the dollar.  There are several geopolitical reasons for them to go in this direction, and this movement has reared its ugly head again.

Asleep at the Switch

Our U. S. Government financial experts considered BRICS to be a moribund and unproductive effort.  As the story goes, any thought of unseating the dollar as the world’s reserve currency was idiotic and a waste of time.  We have been the world’s reserve currency since the Bretten Woods Agreement in 1944.  But we only need to remember that these experts also could not forecast the recession, said it was transitory when it arrived, thought Modern Monetary Theory was plausible, and think inflation will be tamed by the end of the year.  There was something before Bretten Woods, and there will be something after Bretten Woods.

Unable to connect the dots with central banks buying gold in record quantities, sanctions against Russia, tariffs against China, the Silk Road Initiative, onshoring of technical production, the Inflation Reduction Act, record deficits, ignoring threats against Taiwan, funding the Ukraine armaments, and a whole host of other questionable moves in Washington, these informed economists took the Alfred E. Newman approach to changes in world economic trends.  I guess the economic analysis is beyond their spreadsheet!

BRICS Continues to Move Along

What has happened since we last wrote about BRICS?  Many, many things have changed in the world order.  The war in Ukraine has lasted much longer than Russia thought possible, pushing China to aid Russia with raw material and commodity purchases.  The Silk Road Initiative has continued, with many countries in Africa and Asia becoming entangled in the Chinese lending web.  Green initiatives keep ignoring the conflict with China and pushing for more transition efforts, with politicians in the west too frightened to push back.  Add to this mix the economic woes in China and you have a toxic brew.

Additionally, our national debt has spiraled to a level where we and others are beginning to question the long-term position and stability of the dollar.  The international rating service, Fritch, dropped the credit rating of the U. S., citing long term prospects and continued spending with increasing debt service loads.  This move alone will add more to the taxpayer burden than the sum of many of the other missteps.  Unlike other world events, this was entirely within our control, and we fumbled the ball.

Our politicians are always focused on the next reelection cycle and seem to forget that China is the master of the long game.  China is willing to sacrifice the environment, people, and short-term treasure to achieve their long-term goals.  As a totalitarian state their officials do not have to stand for reelection, so they do not care about internal or external opinions of their actions.  Accusations of genocide, unfair trade practices, pollution, intellectual property theft, and false financial reporting are interesting, but short-term inconveniences.  The recent collapse of Evergrande is notable, but a passing blip on their radar screen.

Friends of BRICS

Africa and the Middle East now seems to be the primary focus of the BRICS initiative, with a joint meeting of the “Friends of BRICS.”  African nations are often corrupt, and many need financing for infrastructure projects.  China stands ready to help with both, but always with strings and longer goals in mind.  As I write this there is a BRICS conference taking place in Johannesburg and it is no longer just the first five nations.  Today China and Russia have goals to expand from the first five countries to include many others.  India and Brazil may be hesitant, but they may also be dependent on China enough to go along.  South Africa seems to be along for the ride as the supplier of precious metals and diamonds for monetary backing.

The “Friends of BRICS” group may be as large as forty nations.  Many of these have been allied with the United States for decades but seem receptive to change in the world financial order.  To bring this into perspective Iran, Saudi Arabia, The United Arab Emirates, Cuba, and Kazakhstan all sent representatives.  Others such as Egypt, Argentina, Bangladesh, and Indonesia are all taking part electronically.  I feel the slow tick of Chinese water torture.  While we are sitting home worried about pronouns, gender fluidity, green energy, and Covid, world alliances may very well be reshaping around a BRICS led coalition.  I have seen estimates as high as 75% of the world’s population within the BRICS coalition if they expand.  China and India alone make up a significant portion of the world’s population.  BRICS also gives China cover as just another member of this group, but it is China led.

Many believe that there are too many divergent political interests among the BRICS and Friends of BRICS to form a meaningful alliance.  I believe that they are overlooking the failed finances of traditional financial powers in Europe and North America, and the rise of nations like Saudi Arabia and China.  It would not be completely surprising to see the EU want to go their own way and form alliances where connections to North American are seen as no more important than China or Russia.  China will have some serious near-term financial struggles, but they do not care.  China’s time horizon is decades and centuries, not years.

Currency Backing

Many see the possibility of any currency being backed by a precious medal completely out of the question.  I believe they are missing the point.  With U. S. debt spiraling out of control, the dollar is vulnerable to new ideas and new forms of currency backed with something, anything.  The massing of gold by central banks, and the addition of South Africa to BRICS is not an accident.  There is the real possibility of a fractional backing of a currency or Government bonds.  Either would bring into the discussion “Do I want a currency backed by nothing, or a currency partially backed by something?”  For some of the younger generation crypto currencies with no backing and no country of origin is preferable to the dollar.  There is a message for our politicians in there somewhere.

To make matters worse, France has hinted at an interest in the BRICS initiative.  France, well is France, with socialists at the helm and no real financial direction.  But a breakup of the EU would be possible with the right financial failures at the right time.  The group of socialists across Europe has pushed many nations to the brink of financial collapse.  If the EU were to break up then some might lean toward BRICS as a solution, especially if China is offering debt relief.

Enter Our Friends at BIS

Another link in this chain is our friends at the Bank for International Settlements.  We have reported on them in the past and know they are working on new international payment systems.  Their current goal seems to be leading the charge for a Central Bank Digital Currencies (CBDC) electronic settlement system.  They are already testing a swap of international settlements, and it looks to me like their aim is to make the settlement instantaneous and currency neutral.  If they pull this off, then the dollar’s reserve currency status is in real jeopardy because settlement can be in any instrument with no intervening common currency. 

It might not be the stability of the dollar but technological innovation that kills the need for any reserve currency.  I feel an AI connection here and it is unsettling.  An AI international settlement system would be incomprehensible, subject to manipulation, and uncontrollable.

Basel IV

Another wild card that our financial leaders overlooked was the losing quadfecta of inflation, rising rates, bond values, and banking capital.  Because of the flood of stimulus money, banks have been holding massive quantities of Treasury Bonds of various maturities.  Everything was fine until Fitch started mentioning Basel IV and the FED finally mentioned raising capital requirements in our largest banks by anywhere from 16% to 19%.  The banks panicked and started a round of early talk show speaking sessions to convince the public and Wall Street that everything is fine.  Nothing to see here!

Under Basel IV banks would have to recognize unrealized losses on all bonds.  For some of our largest banks this would wipe out a significant portion of their capital.  This would require ceasing dividends, raising new capital, and other measures to raise the safety net for their losses.  For some of the banks outside the top ten this would close the doors for good.

Closing Thought

At the end of the morning briefing on the show Hill Street Blues, Sergent Phil Esterhaus (Michael Conrad) always closed with the phrase “Let’s be careful out there.” 

If there was ever a time for caution, this is it.  I am just concerned that everyone sees it but Washington politicians who are preoccupied with everything but what is going on outside our borders.  China has us where China wants us, and we need to wake up.