Another milestone in the demise of the dollar

The headline appears more scary than it actually is, but it is still a significant step down the road.

In the most profound financial change in recent Middle East history, Gulf Arabs are planning – along with China, Russia, Japan and France – to end dollar dealings for oil, moving instead to a basket of currencies including the Japanese yen and Chinese yuan, the euro, gold and a new, unified currency planned for nations in the Gulf Co-operation Council, including Saudi Arabia, Abu Dhabi, Kuwait and Qatar.
Secret meetings have already been held by finance ministers and central bank governors in Russia, China, Japan and Brazil to work on the scheme, which will mean that oil will no longer be priced in dollars.
The plans, confirmed to The Independent by both Gulf Arab and Chinese banking sources in Hong Kong, may help to explain the sudden rise in gold prices, but it also augurs an extraordinary transition from dollar markets within nine years.

Given the statements that Russia and China have been making all year long, this isn't much of a surprise. The only real concrete change is that the OPEC nations and Japan have gone past theoretical talk and engaged in high level meetings.
Russia and China are heavyweights, but they absolutely have to have the OPEC nations on board for this to be effective. Iran and Venezuela have been moving towards this for years, but getting the UAE on board suddenly makes this serious.
We also see that the Japanese election outcomes are having immediate effects.

The Americans, who are aware the meetings have taken place – although they have not discovered the details – are sure to fight this international cabal which will include hitherto loyal allies Japan and the Gulf Arabs. Against the background to these currency meetings, Sun Bigan, China's former special envoy to the Middle East, has warned there is a risk of deepening divisions between China and the US over influence and oil in the Middle East. "Bilateral quarrels and clashes are unavoidable," he told the Asia and Africa Review. "We cannot lower vigilance against hostility in the Middle East over energy interests and security."
This sounds like a dangerous prediction of a future economic war between the US and China over Middle East oil – yet again turning the region's conflicts into a battle for great power supremacy. China uses more oil incrementally than the US because its growth is less energy efficient. The transitional currency in the move away from dollars, according to Chinese banking sources, may well be gold.

The chances of there being an actual economic war between America and China are small. While China would suffer, America would lose far more. That's how it always is when a debtor and creditor do battle.
It's very interesting that gold would be considered a transitional currency. If this is true you can bet that the IMF's recent plan to sell 403 tonnes of gold will get quickly snatched up by Asian central banks. It'll never even hit the market. Also, two of the largest gold producers in the world today are Russia and China. You can bet that their gold exports will quickly dry up.

So what exactly would it mean for the world's reserve currency to be priced in oil rather than dollars? ZeroHedge uncovered 30 year old documents that addressed that very question. These documents were recently declassified from the Carter Administration.

1. An announcement that dollars were no longer being used as the unit of account in paying for oil would trigger selling of dollars on the foreign exchange markets. So we would suffer.
2. I don't see any offsetting gain, since OPEC would probably raise prices in SDR terms, as necessary to recover revenue losses if the SDR appreciated relative to the dollar.
We might be able to persuade the OPEC countries to make the shift if the dollar weakened but that's precisely when the move would be most damaging to us.

The choice of the unit of account for oil pricing is basically under the producing countries' control. There is no particular economic reason why a shift from the dollar would be contrary to U.S. interest -- unless the dollar were to depreciate significant in relation to the currencies in the pricing basket. But there could be major psychological effects. Given the unsettled conditions in the foreign exchange market [TD: so true today, 30 years later], such a step at this time could be interpreted as a lack of confidence in the dollar and as presaging a shift in OPEC investment policy away from the dollar. It could precipitate a serious market reaction.

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I was just about to write this up

so glad you caught it.

Naked Capitalism also has some interesting details, plans to move away from the dollar on oil pricing.

This NC post, from 2007 details how oil to Japan in Iran is settled in Yen.

I am not entirely convinced that losing reserve currency status

is a bad thing.

What is a very bad thing is not being at the table when the issue is discussed! - Financial Information for the Rest of Us.

It's bad in several ways

Consider a nation that lives far beyond its means. It must borrow from foreigners to make ends meet. However, since it has the world's reserve currency, it can borrow in money that it creates out of thin air.

Now consider the same nation without reserve currency status. Suddenly foreigners demand that it pay in their own currency. How can it get another nation's currency except through trade. But the nation has a massive trade deficit.
This means that America will have to live within its means. It'll have to save money. It'll have to create products that the rest of the world wants.

Of course living within its means also means that we can't be starting wars all over the world anymore. We can't have a military that is larger than the rest of the world combined. We can't afford to give massive tax cuts to the rich.
There are advantages, but they are down the road. The pain is in the short term.

Exactly, short term pain for long term gain.

Maybe, we can start exporting real things instead of our debt. Maybe, we can have a tax code that more progressive. If we don't change our ways it will happen and I think it is better if we are at the table with other powers trying to craft an alternative as opposed to be on the sidelines letting other countries (some who would love to us buried) to determine our fate. - Financial Information for the Rest of Us.

oh boy howdy

I've written extensively on the implications of not being a reserve currency. If you want to be Zimbabwe with this level of national debt, feel free. Myself, I think I want to hang onto that Dollar Hegemony status.

Just wondering

Actually, repricing oil with a basket of currencies has been discussed before by OPEC. The weakening of the US dollar breeds speculation in gold and currency markets. If we had to pay for imports in, say, euros -- what then? $6 gasoline? Higher interest rates? Pull out of NATO? I suspect some of us will have a diminished standard of living until we get our house in order, but the "stateless elite" will simply keep coining money by any means available.
Frank T.

Frank T.

NATO and all

I don't think we'd pull out of NATO. But I think the world should realize that we will be "downsizing" our military when this big shift happens. And they should realize that we won't be everywhere anymore, which to me is a good thing. This also means when there is a disaster somewhere, that the local powers should take care of their neighborhood. World War 2 has been ended 60+ years ago, the Cold War has been over since '89. No reason to keep the bases in Europe or Asia. We have a military for a world that no longer exists, let alone a budget to go along with such a history.

Oh, I think it will happen - dollar will lose the status

The question now is will we be prepared for and have a say in the alternative.

I think this is why it is absolutely important that we get this economy moving again with jobs. Once we have close to full employment and a true recovery focus on the deficit and debt load. We have time - even this report from the Guardian doesn't talk in terms of immediate transition. - Financial Information for the Rest of Us.

The dollar collapse will happen sooner than that

Fisk is talking about 2018. But 2018 is the time frame to when everything will have already been played out. The ramifications will have already occurred by then.

I think that the real changes will be happening much sooner than that. We should see a coordinated move away from the dollar start in just a couple years.

Check out the YouTube videos I added to the article.

Max Keiser is correct in that China and Russia are tired of

financing our wars and military complex. But unless China is prepared to satisfy its economic needs with internal demand and whatever it scraps together elsewhere we are still tied to the hip.

I wish the Obama Administration backup words with actions. Rahm Emanuel said "You never want a serious crisis go to waste." Here it is, both YouTube videos mentioned one HUGE thing - OIL. We should be working much faster, and in way incorporated into the new WPA 2.0, from foreign dependency on oil. Where is the leadership - this is our generations WWII? China has practically cornered the oil mark with its purchases of oil producers. - Financial Information for the Rest of Us.

China will be US with regards to consumer demand

Here's a twist. Morgan Stanley, as noted in this Washpo article, says that consumers in China will over take America by 2018.  You cannot tell me that the multinationals aren't aware that this was possible, be it 2018 or what ever date.  Even if it only the urban middle class or upper elites, the numbers alone are staggering.  The multinationals stopped caring about our market a long time ago, witness the expansion of GM  and Intel in China.  

"Morgan Stanley estimated that, using conservative projections, China's total consumer spending will surpass that of the United States by 2018."

Perhaps China could be the ultimate last bubble, who knows.  But the fact remains, the consumption wave has moved East. Everything now is slowly being geared towards an Eastern market.  Alcoa's latest earnings report says that China is their big growth market.  The question begs, if China doesn't need to sell us their oodles of crap, will they need to keep our government crap?

amazing isn't it

and our lovely "elected" officials have basically handed China our standard of living and our livelihoods too.

Roubini is claiming Asia is "hype" and will not grow to the levels currently projected.

But I disagree, although I doubt China would be as stupid as the U.S., at least immediately in terms of depending on their citizens going into massive debt to "buy things".

It isn't hype

Not when you have China buying Gold. The Chinese are fantastic students of history. They studied us, how we originally made it, and are playing by our old playbook. They talked up free trade, along with others, but do not really play that game. The book Bad Samaritans highlighted this very well.

No, China can pull it off because at the end of the day, they can lower the cost of production to make a "Chinese middle class" possible. They can artificially keep costs like labor down through coersion. Indeed, they are worse than any villain in a Charles Dickens novel (ironic given their Marxist origins). They can keep commodity prices to where they almost want, because right now they are really the only major buyer. I say almost, because they have a neighbor to the Southwest who could take them on, India is basically China 1985. But getting back to producer costs, they will only accept so high a price, and if it isn't to their liking they can walk away and leave the counter party holding the bag. Simply look at the recent reports of Chinese firms defaulting on comodities contracts.

But I have another nagging suspicion. This is bordering on tinfoil hat, but hear me out as I want your take. They've been purchasing a LOT of gold and other precious minerals. Outside of production needs, what if they are forming their own basket of goodies. What if China, when their domestic consumption has reached a certain point, decides to finally float their currency? What if they are also making a play to make it, in what could be, a basket of reserve currencies, so that they could purchase oil in their money instead of a foreign denomination?

Sometimes, they really are Aliens

Remember that the Germans and Japanese looked after their self-interest trade-wise. So China's stockpiling may be in anticipation of future need (our strategic reserves of metals and oil come to mind) -- I know I'm being redundant. But I also remember the Hunt brothers corner in silver. China isn't subject to the CFTC, and may decide someday to play hardball with central bankers.
Frank T.

Frank T.

Regarding our elected officials

The Democrats stopped representing their base at the same time the GOP did. One is the party of "do what we must to keep OUR political jobs" while the other is "do what we must to muster suspicion and do what we must to keep OUR political jobs." The question is, which is which?!?

The real danger is if things that we buy

or our debt is no longer price in dollars.

Think about it though, we already have volatility because of the instability of the dollar. Look at the per barrel price of crude in euros and dollars. Guess what, the "oil" price increase was in large part produced by the fall of the dollar relative to other currencies.

We don't have a huge amount of trade with oil-producing states, they are supplied with capital and consumer goods from Europe and Asia. Latin America is the exception.

A drop in dollar value would mean that the cost of oil and other imports would go up quite a bit, however it would also make American manufacturing more competitive. Particularly on the high end products where are competitors are in Europe, Japan, and Korea, not China and India. Cost competitivity in capital goods, machines that make finished products, would allow the machine tools industry to be rebuilt in the US. That would help make the rest of manufacturing much more competitive.

That said, dropping English system and going metric would make it even more dramatic. We lose a considerable amount of trade because we have either have two sets of measurements, or don't have compatibility with the rest of the planet because we have a 1/8 inch bit instead a 4 mm one. They aren't interchangeable. It you have a top of the line bike, it's a pain to fix because the Italian and Japanese parts are in mm. Which means that if you try to use customary based tools it doesn't work......

Good Points MfM.

But I think the horse left the barn on this one a long time ago. Several years ago I was lamenting the weakening dollar and a golfing buddy responded that a weak dollar was good because it would increase our exports. The problem with that logic is that we stopped being a manufacturing country 25 years ago or so, and replaced it with financialization. To that, I have my own experience to relate.

My first real job, folllowing a 3 yr stint in the Army, was in 1969 with Carrier Air Conditioning. Carrier was ALWAYS, from its inception, an ENGINEERING driven company. Product design and development and manufacturing engineering were it's reputation and it was considered the "cadillac" of air conditioning. In 1979/1980, a hostile takeover was initiated by United Technologies Corp. which lasted into 1981. Eventually it happened and Carrier was transformed into a divisional "profit center".

Mind you, from 1969 until that time I was part of an international group that annually exceeded sales and margin targets. Every single year we exceeded budgeted expectations! But once we became a "profit center", all that mattered was cost and sales. There was no more innovation; it was just find out what you can sell and get it from the cheapest source, wherever it is. All sourcing and sales activities were decentralized and the large domestic manufacturing sites were de-emphasized and/or abandoned. Along with them went the generations of engineering commitment and the skilled laborers that made it work. They are long gone and the tool and die makers now reside in Germany, Brazil, China or wherever.

IMO, losing dollar hegemony would probably result in a fairly rapid collapse of American influence in the world and catastrophic damage to American society. But re-establishing America's dominance in the development of capital goods would require something like reinventing the wheel. We stopped being that country a long time ago. And like it or not, the only innovation that exists in America now is financial innovation enabled by government chicanery.

I was watching Mad Men the other day

it was the episode where they were pitching General Dynamics (the NASA pitch). There was a particular scene, where all these engineers were sitting in this room and the young Pete Cambell is doing his pitch. In the background you saw all the stuff they were making. You saw all those engineers sitting there and execs talking about the stuff they were making. Then in several episodes they had these folks from various product companies.

It struck me, here was an era where we were MAKING things, and we were respected. This was pre-Vietnam, so please take that into account. We had AMERICAN engineers, not offshored ones. We were making televisions and other consumer electronics. We were feeling hope, growth, well you get it.

So yes commongood, with regards to your last paragraph, maybe...just maybe, this could be our second chance. We rested on our laurels, our competitors destroyed after a world war, we were top dog. Then we coasted off that success. Sure we had some good new technological expansions, but in the end did that result in a new manufacturing base? No. I'm hoping everything doesn't fall apart before we can get things going again. We need a manufacturing base, period!

U.N. calls for new world reserve currency

What an interesting coincidence.

The United Nations called on Tuesday for a new global reserve currency to end dollar supremacy which has allowed the United States the "privilege" of building a huge trade deficit.
"Important progress in managing imbalances can be made by reducing the reserve currency country?s 'privilege' to run external deficits in order to provide international liquidity," UN undersecretary-general for economic and social affairs, Sha Zukang, said.
Speaking at the annual meetings of the International Monetary Fund and World Bank in Istanbul, he said: "It is timely to emphasise that such a system also creates a more equitable method of sharing the seigniorage derived from providing global liquidity."
He said: "Greater use of a truly global reserve currency, such as the IMF?s special drawing rights (SDRs), enables the seigniorage gained to be deployed for development purposes," he said.

It certainly seems that everyone is working towards the same goal. The question is if they will find a solution.
On a related note, Zerohedge has an entirely different take on the subject.

The Europeans are getting worried. As the euro flirts with the $1.50 level not seen since mid-2008, the Eurozone's economic and monetary authorities are mulling their first unequivocal verbal protest against the currency's appreciation in five years.
Why now? Because Eurozone officials have lost trust in the commitment of US President Barack Obama's administration to the "strong dollar" policy. This loss of trust has reached a point where some even suspect the US has reached an accommodation with the Chinese whereby Beijing turns a blind eye to dollar depreciation in return for a moratorium on Washington's public calls for renminbi appreciation.

this should be a blog post

That's just unreal. And to talk about the trade deficit???? While the US signed those trade agreements (which are corporate, multinational written) who has completely unfair trade practices to create the massive trade deficit in the first place! China! 83% of the non-oil trade deficit is with China...

so to me, obviously China is doing this and it's all about their massive derivative and U.S. Treasury holdings.

So, China does unfair trade practices, manipulates their currency and now blames the U.S....all the while the WTO rules against the U.S. in almost every complaint!

Wait a Minute!

We're too big to fail. Aren't we?
Frank T.

Frank T.

Uhh, may I point out that

Uhh, may I point out that other nations, whose currencies are NOT reserve currencies, do just fine. ;) Besides, the U.S. Dollar has not been the sole reserve currency for many years. The Yen, the Pound and now the Euro are reserve currencies -- the percentage of dollars held in reserve has declined ONLY because people also now accept Euros (as an example), so it is perfectly normal for China to have Euros in reserve too. Really, the general media is creating this situation, as are Monday morning Quarterbacks... with the net, all of a sudden, eveyone's an expert. Besides, many of the "Dollar Bears" out there today are just trying to hawk gold. Look, there is no sinister plot to get rid of the think so is abusrd. Will other currencies rise in usage and become more accpeptable? Of course. China and Russia want their respective currencies to be respected AND accepted, so much of this talk to try and hurry that process along. At some point, the Ruble and the Yuan will probably join the ranks of the Yen, Dollar, Euro and Pound. So?? Relax everyone.