It’s not just a fleeting crypto phenomenon among keyboard warriors and gauche entrepreneurs. Whole countries are participating in what is called de-dollarization.
June 7, 2021
By: Bobby Casey, Managing Director GWP
Like many of the plans that generate out of politicians, this too was short-sighted and assumed nothing would change. Sixty years later, and those assumptions are so expired, they might’ve reached mythological status.
Here’s a quick breakdown since and from the Bretton Woods Agreement in 1971:
The US refuses any monetary competition from physical gold.
Gold is still mostly priced in dollars, which is key to US reserve status.
Saudi Arabia would always accept dollars for oil.
A byproduct of suppression of monetary competition form gold was a robust futures and derivatives gold market (a.k.a. “paper gold” or unallocated gold)
It’s no secret the US hates competition internationally or domestically, and the arrangement it made with Saudi Arabia to always and only accept US dollars for oil was a big part of this fix.
But the US has since shifted toward greater energy independence and it’s imports from Saudi Arabia have been waning. The US has even gone a few weeks without any oil imports from Saudi Arabia at all.
Paper gold looks a lot like fractional reserve banking. It relies on low levels of cashing out, and the ability to invest or lend out physical assets, keeping only a small fraction in reserves:
The fractional reserve method trading of unallocated precious metals is the primary means by which the U.S. government, the primary trading partners of the Federal Reserve Bank of New York, allied central banks and the Bank for International Settlements suppresses gold and silver prices.
By selling paper contracts, without having to deliver the physical metals, there is the appearance that there is a lot more gold and silver available on the market than there actually is. The result is that prices are lower than if buyers and sellers of precious metals traded on the basis of actual supply and demand information.
This has been happening for years. Meanwhile something else has been happening for years: the Basel 3 Accord.
Basel 3 Accord is a set of financial reforms spearheaded by the Basel Committee on Banking Supervision under the domain of the Bank for International Settlements, based out of… you guessed it… Basel, Switzerland.
This accord finds its impetus in the 2008 Great Recession, designed to assuage risk by demanding banks maintain healthy leverage ratios and reserves on hand.
It’s been rolling out since 2013, with its full implementation expected to be finalized by January 2023.
Let’s put a pin in Basel 3 for a moment… and explore what’s called the Triffin Dilemma or Triffin Paradox. I’m pulling this straight from Wikipedia:
The Triffin dilemma or Triffin paradox is the conflict of economic interests that arises between short-term domestic and long-term international objectives for countries whose currencies serve as global reserve currencies. This dilemma was identified in the 1960s by Belgian-American economist Robert Triffin, who pointed out that the country whose currency, being the global reserve currency, foreign nations wish to hold, must be willing to supply the world with an extra supply of its currency to fulfill world demand for these foreign exchange reserves, thus leading to a trade deficit.
You can see how the US dollar fits into this, but here it is more clearly explained:
“[T]he dollar’s Triffin dilemma has meant that inflationary US policies have supplied the world’s demand for dollars, to the extent that foreign governments and private sector entities now possess dollar-denominated financial assets and bank deposits totaling some $30 trillion — 150% of US GDP.”
We have three things swirling here:
Basel 3 Accord Regulations
How do these three things come together?
The Basel 3 regulations rolling out in the next couple years will require banks to hold reserves against their assets, and that will cause a major disruption in the unallocated metals market:
Under the coming regulations, banks would count unallocated precious metals at 85 percent of their value on the bank’s books in making the determination of how much it needs to hold in reserves against these assets.
However, banks would no longer be able to consider any of the liability for unallocated precious metals as part of their required reserves.
Therefore, to comply with Basel 3 regulations, banks would have to either create a huge increase in their shareholders’ equity to provide the required reserves or they will be forced to sharply reduce or completely eliminate their trading in unallocated precious metals.
Until this point, “Paper Metals” offset or defused the demand for physical metals. The physical metals to “cash out” on the paper metals doesn’t actually exist. If the banks opt to eliminate trading in unallocated metals, they can’t just assume the physical equivalent of their unallocated holdings.
People holding a worthless paper metal, will likely or at least in part, want to switch to the physical asset instead. That will trigger a surge in value and price of precious metals.
Enter the Triffin Dilemma: Gold has always been a hedge against the dollar. So a rise in gold prices means a drop in the purchasing power of the USD.
Now enter depolarization: What does this mean for foreigners, both private and government sectors, who hold any part of that $30 trillion of dollar denominated financial assets sand deposits?
Russia announced further efforts to cut its reliance on the USD. Russia has what’s called the National Wealth Fund (NWF). Initially formed to support the country’s pension system, as of the end of May, it held $600.9 billion in assets.
Russia’s finance minister, Anton Siluanov, announced at the St. Petersburg International Economic Forum on Thursday that dollar assets will be removed from the National Wealth Fund (NWF) altogether as Washington continues to impose sanctions on Moscow.
They will be replacing those dollar based assets with Euros, Yuan, Gold, Yen, and Pounds. This is of course part of Putin’s larger initiative to become invulnerable to US sanction efforts and sanctions. Likewise, Russia and China have been fortifying their alliance. With Russia being the number one exporter of energy resources, and China being the top consumer of those resources, it should come as no surprise that the two countries intend to double their bilateral trade to $200 billion by 2024.
While somewhat predictable that adversarial countries like Russia would be among the first and most eager to abandon the USD, who is next?
All this to say, be mindful of where your assets are. Divestment out of the US dollar isn’t just a whimsical phase for online bulls and avant garde corporate tycoons. The dollar and paper metals appear to be vulnerable and the global economic tides, they are a-changing. This affects everyone who invests in anything connected to the dollar, precious metals, energy, and even crypto because if and when the USD feels the full effects of its own inflationary policies, every hedge against that dollar will feel it.
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