The Breakdown - Inside China and Russia's Battle Against the US Dollar

Starting point is 00:00:04 Welcome back to The Breakdown with me, NLW. It's a daily podcast on macro, Bitcoin, and the big picture power shifts remaking our world. The breakdown is sponsored by nexus.io, Arculus, and FtX, and produced and distributed by CoinDesk. What's going on, guys? It is Friday, March 25th, and today we are talking about China and Russia's battle against the U.S. dollar. Before we get into that, however, if you are enjoying the breakdown, please go subscribe. to it wherever you listen to podcasts, give it five stars, leave a review, or if you want to get deeper into this conversation, come join us on the Breakers Discord. You can find a link in the show notes or go to bit.ly slash breakdown pod. Also, a disclosure, as always, in addition to them

Starting point is 00:00:53 being a sponsor of the show, I also work with FTX. Now, we are going Big Think Friday again, which I'm so excited for. And if you are reading Bitcoin Twitter right now, you probably are convinced that the dollar is officially dead. I mean, we're talking there singing funeral dirges and proclaiming its end. So, does Bitcoin Twitter have the right of it? Is the dollar at the beginning of its end? And either way, what is driving this conversation? The context, of course, is the ongoing war in Ukraine and how it is creating new pressures that are reorganizing the global monetary order. There are a couple of reasons. There are a couple of reasons. that people are thinking the monetary order may be shifting under our feet.

Starting point is 00:01:41 The first has to do with changing trust in the U.S. dollar as a savings instrument. If you listened a couple weeks ago to my Bretton Woods three podcast, that thesis from Zoltan Pozar was all about exactly this. To Zoltan and basically everyone else as well, there have been two key post-war phases in the global monetary regime. The first was Bretton Woods, the conference at which the Allies reorganized the money system in the wake of World War II, and what happened there is that basically the world's currencies would be aligned with the U.S. dollar and the U.S. currency would be pegged to gold. Now, as a little historical aside, it is worth noting that this wasn't the only way proposed to organize the post-world monetary system.

Starting point is 00:02:25 Remember, John Maynard Keynes thought that it would be much better for the world to not be on a single sovereign's currency. He instead proposed something that he called a bank or, which would be an international settlement currency that referenced other individual sovereign currencies. That idea did, in fact, inspire the crypto protocol of the same name, and it also clearly had an influence on the initial design of Facebook's Lieber project. Either way, JMK lost that argument, and we were on the U.S. system and the U.S. was on the gold standard. That was, of course, until 1971, when President Nixon ended the U.S. dollar's relationship with

Starting point is 00:03:00 gold, and what came next, which was established over the next decade, was the petro dollar system. In this new system, the U.S. became the reference and settlement currency of the world's most important asset, which was oil. The U.S. would give oil producers like Saudi Arabia security guarantees in return for them pricing oil in dollars. And this gets us, of course, to the other parts of the new Bretton Woods 2, as Zoltan put it, Global Monetary Order, which was, one, the U.S. enforcing open trade everywhere it had influence, which was of course everywhere after the fall of the Soviet Union, and two, the U.S. not getting involved in how the dollar was used day to day. The U.S. government didn't manipulate the supply of the U.S. dollar to achieve specific short-term

Starting point is 00:03:42 dollar price targets, and it didn't intervene in things like who could save in dollars. Both of those parts of the system were key to this Bretton Woods second phase, and both have been slowly changing. The U.S. has been steadily withdrawing from its global leadership position in the world. Different people pin the exact point in different ways. Certainly the last three administrations, Obama, Trump, and Biden have seen a shift away from the world and foreign policy and towards prioritization of America and domestic issues. But in many ways, it goes back even farther. The 1992 presidential campaign was in part a referendum on where we wanted to focus. George Herbert Walker Bush wanted America to ask what it wanted to be in the world now that the Soviet Union was no longer the

Starting point is 00:04:27 force that it had been. Bill Clinton, on the other hand, said let's focus at home. America's response, as we know, was to go with Clinton and to focus at home, and on the one hand, this was super understandable. People were tired of the stress of the Cold War and thinking about foreign entanglements. But one of the impacts of that decision was that we never really had that national conversation around what America wanted to be in the world going forward. Because of a lack of that conversation, what we got was globalization by default. An ever-growing economic. interconnection that was never really a discussion among American citizens, but was just something that slowly happened over time. Now, of course, critics of globalization tend almost always to

Starting point is 00:05:09 miss the extraordinary benefits that it is created for so many. In fact, those critics have tended to be so easy to meme that, I think in many ways, the real important questions of tradeoffs were never discussed. Now we're living in the outcomes of a lot of those tradeoffs. The hollowing out of the American middle class, in exchange for cheaper stuff, is the memeified version of one of those consequences, of course. But over the last couple years, the one we've been really feeling acutely is the incredible extent to which just-in-time supply chains fold over in the context of border-spanning challenges. This was made abundantly clear as COVID-19 spread across the globe, and in the U.S., we couldn't get such basic things as personal protective equipment for

Starting point is 00:05:53 hospitals and health workers. A couple years later, now of course, course, we're experiencing a new type of problem with interconnection as all of Russia's exports become unavailable to the rest of the world that need them. This sort of interconnection that we have gotten accustomed to clearly doesn't work in the context of large economies being willing to be not just belligerent but kinetically violent with each other. But again, to recap the assumptions of this Bretton Woods two phase, one was that the U.S. was actively interested and willing to be the policemen of global trade. That has clearly been less and less true. The other was that we were not going to mess with the U.S.D for political means, and that has had

Starting point is 00:06:31 some moments of erosion over the last decade, particularly in the context of Iran and the weaponization of the SWIFT system. And of course, that second piece has become severely compromised in the context of sanctions on Russia. I want to be clear here that recognizing that there is a cost to the weaponization of the U.S. dollar system does not a priori imply that it's the wrong decision in the context of this belligerent, warlike, imperial Russia. But we can keep having that debate separately, while acknowledging that right or wrong, there are consequences to these actions. So part of the Bretton Woods three thesis, and here I'm combining Zoltan with just a lot of general chatter, is that there is more reason than ever for nations to be wary of the U.S.

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Starting point is 00:08:29 Just crypto security, made. simple. Buy Arculus on Amazon today. The breakdown is sponsored by FTXUS. FtXUS is the safe, regulated way to buy and sell Bitcoin and other digital assets with up to 85% lower fees than competitors. There are no fixed minimum fees, no ACH transaction fees, and no withdrawal fees. One of the largest exchanges in the U.S. FDXUS is also the only leading exchange that supports both Ethereum and Solana NFTs. When you trade NFTs on FTCs, you pay no. no gas fees. Download the FTX app today and use referral code breakdown to support the show. Now let's talk for a moment about how much doom to place upon the dollar. As I said, big parts of

Starting point is 00:09:17 Twitter are convinced that the USD is now on its inevitable decline and that it's basically done for it's just a matter of time. Many others in the traditional economic world agree that the U.S. dollar has new pressures on it, that this weaponization has consequences, and that it may lead to a multi-reserve currency world. But then there are others who will make full-throated arguments for the absolute absurdity in their minds of these positions, taking the view that there is simply no other real reasonable currency contender to the throne. So let's pick up the next part of the story there. In his Brettonwood's three notes, Zoltan specifically discussed who might pick up all these cheap commodities lying around that no one else is willing to buy from Russia because of sanctions

Starting point is 00:09:58 and argues that the best candidate is obviously China. He wonders in that piece if there's going to be a new commodity-backed Chinese currency regime that starts to chip away from the dollar supremacy. And while we don't know what the eventual outcome of this will be, there have certainly been some interesting recent developments over the past couple weeks. Two weeks ago, the Wall Street Journal wrote a piece entitled Saudi Arabia considers accepting Yuan instead of dollars for Chinese oil sales. What's important to recognize here is that China is involved in a much bigger portion of the world's trade than China's currency is used to settle trade. In other words, there's a huge imbalance between the significance of China's trade and the significance of China's currency,

Starting point is 00:10:37 and it has been a long-standing goal of the Chinese government to increase the use of its currency as the reference and settlement currency for important international transactions. According to the Wall Street Journal, Saudi Arabia has been in talks for about six years around pricing oil contracts in the yuan, but that process has now seen a dramatic acceleration. Remember, the deal with Saudi Arabia and the U.S. has always been a security guarantee for them, and now they are starting to question our commitment to that. Saudi Arabia is pissed about a bunch of things. We don't support their intervention in Yemen's civil war.

Starting point is 00:11:09 They don't like our attempt to strike a deal with Iran, who they see as their biggest regional threat. They were shocked and dismayed at our withdrawal from Afghanistan. And they don't really like that we didn't like their crown prince, Mohammed bin Salman, or MBS, killing a journalist in a foreign embassy, a thing which then candidate Biden said Saudi Arabia should be a pariah for. There was also just the economic real politic that our domestic production of oil has picked up significantly,

Starting point is 00:11:36 so we care a lot less about their oil. In the early 90s, we used to import 2 million barrels a day from the kingdom, and now that's less than 500,000. So, guess who is now the world's biggest buyer of Saudi oil? And guess who doesn't give a crap about what MBS does? From the Wall Street Journal, China buys more than 25% of the oil that Saudi Arabia exports. If priced in yuan, those sales would boost the standing of China's currency. It would be a profound shift for Saudi Arabia to price even some of its roughly 6.2 million barrels of oil of crude exports in anything other than dollars.

Starting point is 00:12:10 The majority of global oil sales around 80% are done in dollars, and the Saudis have traded oil exclusively in dollars since 1974. Now, to be clear, this petro-Yuan deal is not guaranteed. Again from the WSJ, it is possible that Saudis could back off, switching millions of barrels of oil trades from dollars to yuan every day could rattle the Saudi economy, which has a currency, the real, pegged to the dollar. Prince Mohammed's aides have been warning him of unpredictable economic damage if he moves ahead with the plan hastily. Still, it's pretty clear when you look at the situation that Saudi Arabia feels pretty high up on the list of countries that feels like

Starting point is 00:12:46 they need to diversify their international backing in terms of everything from security guarantees to economic cooperation to foreign exchange reserves. Okay, so there's the China and Saudi Arabia side, but then there's another piece of this which brings us back to Putin. A key thing to remember here is that everyone is still buying energy from Russia. Everyone more or less has to. So Putin is now biting back against sanctions with the one thing he has. On Wednesday, he said, I have taken the decision to switch to ruble payments for our natural gas supplies to the so-called hostile states.

Starting point is 00:13:18 Basically, he's forcing European countries to buy rubles to buy oil and natural gas, which is effectively forcing his enemies to prop up his currency. On Wednesday after this announcement, the ruble gained 7% against the dollar, its best day since before the conflict began. Now, there is a lot of talk from the European nations around this being a breach of contract and going into arbitration. Call me cynical, but I don't think that really matters to Vladimir Putin. European gas benchmarks climbed as much as 34% after Putin issued his demand. Professor Richard Werner, the author of Princes of the Yen, wrote brilliant move by Vladimir Putin to sell Russian oil and commodities only against rubles for. now on. Rubel demand boosted the end of the petro dollar. Russia has adopted the former U.S.

Starting point is 00:14:01 petro currency policy, the West, now scrambling for rubles. Mark Ames, the former editor of the exile in 90s Moscow tabloid, wrote, so now EU has a choice, either collapse their own economies and face political unrest, or break their own sanctions against the Russian central bank and prop up the ruble. Benjamin Norton, the editor at Multipolarista, wrote geopolitical trolling. The EU is waging brutal economic war trying to devalue Russia's currency, the rubble. but Europe still depends on cheap Russian gas. So now Putin says Russia will only send Europe gas if they pay in rubles, which will strengthen it. Robin Brooks, the chief economist at the Institute for International Finance, says Russia's financial conditions are easing. After the initial shock

Starting point is 00:14:40 of sanctions, financial conditions tightened due to ruble and equity falls. But half that has now unwound, not because sanctions don't work, but as hard currency inflows from energy exports are a loophole for Putin. Now, it's important, I think, to break apart the threat to Europe and the challenge it creates for them versus the threat to the U.S. dollar. In fact, there are plenty of people out there who don't see this as particularly relevant for the dollar at all. Brent Johnson of Santiago Capital, best known for his dollar milkshake theory, says, if I'm understanding correctly, Putin is now going to trade his greatest asset, which is finite in supply, for a fiat currency which is infinite in supply and that he is the ability to print at will. Surely a 3D chess strategy,

Starting point is 00:15:18 if ever there was one. So to take a moment to sum up, we have the long-term trend of the U.S. withdrawing from the world. We have the weaponization of the dollar system. We have a commodity shortage and crisis in Russia thrusting the rubble into the center of it. And we have Saudi Arabia and China getting closer. Big picture power shifts, am I right? But of course, it wouldn't be 2022 without a little tiny Bitcoin inclusion. From the block yesterday, Pavel Zavalny, who heads the Russian state Duma's Committee on Energy, held a press conference with the Russian government news outlet Russia today on March 24th. In it, he tried to explain how Russia would move away from selling its natural gas for dollars and euros when global energy markets are overwhelmingly denominated in the two.

Starting point is 00:16:01 After naming friendly nations like China, Turkey, and Serbia, and Russia's willingness to trade with them for their own currencies, Zavolny said, quote, the set of currencies can be different at standard practice. In what resembled an afterthought rather than a statement of policy, Zavolny went on to say, if it's in Bitcoin, then we'll trade in Bitcoin. Of course, this is getting picked up all over the internet. firmly agree with the Block's characterization of this as in what resembled an afterthought, but it also probably conveys that Bitcoin is on their mind. As you've probably guessed, I think it's far too early to write funeral dirges for the dollar.

Starting point is 00:16:37 I think that no one knows exactly what happens next, because the combination of factors that will shape how the global economy and the global monetary system resolve themselves from this is so immense that it is truly unknowable. But it has never been more clear that we are in an inflection point moment and something will be different on the other side. For now, I want to say thanks to my sponsors, nexo.io, Arculus and FTX. And thanks to you guys for listening. Until tomorrow, be safe and take care of each other. Peace. Hey, breakdown listeners, come join CoinDesk's Consensus 2020, the festival for the decentralized world this June 9th through the 12th in Austin, Texas. This is the only festival showcasing and celebrating all sides of blockchain, crypto ecosystems, Web3, and the Metaverse,

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The Breakdown - Inside China and Russia's Battle Against the US Dollar

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