The global financial system on the brink

The global financial system is about to be thrown into chaos.

The United States and Europe have moved to target Russian central bank reserves and separate the country’s banking system from the global financial network SWIFT.

It’s the financial equivalent of the nuclear option — something the Biden administration had explicitly refused to invoke last week before abruptly announcing the decision on Saturday.

Moscow considers this an act of war. An increasingly belligerent Russian president, Vladimir Putin, could retaliate against the United States and its allies in a number of ways, including cutting off energy supplies, launching cyberattacks on financial institutions and teaming up more to China to create alternative payment platforms that challenge US dollar hegemony. .

Geopolitical and financial analyst James Rickards tweeted his prediction: “If you ban SWIFT payments, Russia will stop selling oil.

This represents approximately 9% of world production. There is already a shortage of energy. The result will be a global depression. Even if global energy markets stabilize over time as new sources of supply come on board, confidence in the global financial system could be permanently damaged.

Mutually assured trust in counterparties is the only thing that underpins transactions made in fiat currencies.

When the financial system is used as a weapon of war on a grand scale to freeze assets and deny transactions, it is not just the immediate targets of sanctions that will lose faith in it. The system itself becomes less reliable.

The Russian authorities were preparing for a catastrophic financial scenario long before deciding to launch an offensive in Ukraine.

They have been steadily increasing their central bank gold reserves and developing alternative systems for transacting with trading partners – although it remains to be seen how effective their preparations will be so far.

It seems clear that China, which depends on Russia for oil, coal, grain and other commodities, will continue to do business with Putin. Will the United States stop doing business with China?

The reality is that the US economy is heavily dependent on cheap imported Chinese goods. The shelves of every Walmart would be almost empty without them.

If China started to fear global sanctions, it might start demanding payment in a hard currency with no counterparty risk like gold. Given the sheer size of the Chinese economy (several times larger than Russia’s), any major new move by the Chinese to de-dollarize would be difficult for the US and its allies to counter.

The uncertainty about what will happen next is in itself enough to trigger strategic shifts in asset allocation by countries, companies and individuals.

As people are less secure about holding their wealth in banks or in rubles, yuan, euros or dollars, they will look for healthier alternatives.

There is no stronger and more durable store of value than precious metals. No war or global financial reset of any kind can diminish the universally recognized status of gold and silver as the ultimate currency.

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Don F. Davis