Why ‘de-dollarisation’ is imminent
De-dollarisation refers to reducing the dollar’s dominance of global markets. It is a process of substituting US dollar as the currency used for:
- Trading oil and/ or other commodities
- Buying US dollars for the forex reserves
- Bilateral trade agreements
- Dollar-denominated assets
- The dominant role of the dollar in the global economy provides the US a disproportionate amount of influence over other economies.
How sanctions on Russia could lead to de-dollarisation?
- The imposition of sanctions and the exclusion from SWIFT by the US could trigger a faster de-dollarisation.
- Efforts are underway for the possible introduction of a new Russia-China payment system, bypassing SWIFT and combining the Russian SPFS (System for Transfer of Financial Messages) with the Chinese CIPS (Cross-Border Interbank Payment System).
- The “de-dollarisation” by several central banks is imminent, driven by the desire to insulate them from geopolitical risks, where the status of the US dollar as a reserve currency can be used as an offensive weapon.
- Russia had started its three-pronged efforts towards de-dollarisation in 2014 when sanctions were imposed on it for the annexation of Crimea.
- Russia reduced its share of dollar-denominated assets to about 16% in 2021.
- It also reduced its share of trade conducted in USD by prioritising national currencies in bilateral trade.
|Why the dominance of the dollar continues?
Currently, about 60 per cent of foreign exchange reserves of central banks and about 70 per cent of global trade is conducted using USD.
The US dollar sealed its position in the early 1970s with a deal with the oil-rich Kingdom of Saudi Arabia to conduct global energy trade in dollars.
The status of the dollar was enhanced by the collapse of the Bretton Woods system, which essentially eliminated other developed market currencies from competing with the USD.
Apart from the Euro and gold, most other foreign currencies have some inherent risks associated with them.
For instance, with the historically “neutral” Switzerland joining the EU in imposing sanctions on Russia, it eliminates the Swiss Franc from being an asset that can work as a hedge against economic sanctions.
- China aims to use trading platforms and its digital currency to promote de-dollarisation. It has established RMB trading centres in Hong Kong, Singapore and Europe.
- The International Monetary Fund (IMF) has already added Yuan to its SDR (Special Drawing Rights) basket in 2016.
- However, the lack of full RMB convertibility will hinder China’s de-dollarisation ambition.
- India has also had to work out alternative arrangements, including a barter arrangement, with certain sanctioned countries in the past.
- More recently, India and Russia are said to be considering the use of the Chinese yuan as the reference currency to facilitate oil trade between the two countries.
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