“You need a deep bond market to abandon the USD!”

Or so goes the argument.

But if the BRICS have found another way?

Let’s examine these charts to see if the BRICS are moving towards a new currency or just trading without the dollar as an intermediary currency.

Chinese Gentlemen Prefer Bonds

First, let’s look at China’s USD bond holdings:

Next up, from Raoul Pal, a hedge fund manager and writer of Global Macro Investor:

I posted these the other day but I'm still not sure people yet understand them... and they are the MOST important charts in all of macro/crypto....

Aging population = lower GDP growth

Lower GDP = higher debt to service the aging population.

With high debt and low growth, the Fed needs to create liquidity to service the debt = debasement

Demographics are destiny until the robots + AI scale (2030+), thus debt up, liquidity up = number go up.

It really is that simple with a longer-term time horizon. This is The Everything Code at a very high level.

Here are the accompanying charts. I’ll talk you through them.

Source: Raoul Pal, Global Macro Investor

In the above chart, the Fed’s balance sheet (black) is plotted against US Government Debt as a percentage of GDP. They track almost exactly. The Fed’s buying power is required to service the aging population (baby boomers). But the Fed’s debt service is the very definition of currency debasement.

Source: Raoul Pal, Global Macro Investor

If you invert the debt-to-GDP chart, it tracks with the falling US Labor Force Participation Rate. That’s “the number of people in the labor force as a percentage of the civilian noninstitutional population that is either working or actively looking for work.”

A higher participation rate is preferred, but that’s difficult with an aging population.

Now square all that will the school of thought that says, “China can never give up the dollar because of its deep bond market.”

You Need the US Bond Market… Or Do You?

The above makes sense until you realize no one wants to buy into a four-year bear market in Treasuries.

Credit: LinkedIn, Charles-Henry Monchau

Christian Gerlach, a portfolio manager, had this to write on LinkedIn:

Renminbi dominance over the US dollar will not be possible under normal circumstances. Only an exceptional scenario will do. It is a common misconception to think that authoritarian China can achieve global currency dominance through economic might and trade influence alone. Historically, this is not how leading currency status is achieved. The truth is that only a fundamental undoing of the current geopolitical order could enable Beijing to impose currency dominance, albeit at an enormous cost. Here's why:

The crucial factor for achieving currency dominance is the depth of a currency's financial markets. The dominant global currency does not necessarily have to be issued by the country with the largest GDP or share in international trade.

For instance, at the turn of the 20th century, the US had surpassed the entire British empire in economic size, yet US firms preferred to issue bonds in sterling. A country aiming for currency dominance needs a vast and homogeneous pool of safe, government-backed securities. Over the past 400 years, all the dominant currencies emerged through such a pool: the Dutch florin, the British pound sterling, and the US dollar.

From this perspective, China's debt markets still face significant hurdles. Beijing needs more liquidity, security, and size to effectively challenge the US dollar's status. The possibility of overcoming these obstacles via peaceful means is minimal. So, will today's situation never change?

History has shown that military conflict is often essential for transitioning from one collapsing currency liquidity pool to a new, deeper one. The shifts from the Dutch florin to the pound and from the pound to the dollar were both triggered by war.

After 1945, the US acquired the largest pool of safe government debt globally, paving the way for dollar dominance. Therefore, military conflict is critical because it is the ultimate harbinger of default risk. Time and time again, the only series of events that destroyed a dominant currency's debt liquidity pool and gave rise to a new one had nothing to do with peaceful economics - quite the opposite.

It’s hard to argue with history. But what if Beijing found another way to trade without its renminbi (or yuan) becoming the world’s reserve currency?

Exploring Alternatives to the US Dollar for BRICS Trade

As the global economic landscape evolves, the BRICS countries—Brazil, Russia, India, China, and South Africa—are exploring ways to reduce their reliance on the US dollar for trade. While the idea of creating an alternative currency has been discussed, several other strategies these nations can employ to achieve this goal.

Bilateral and Multilateral Currency Swaps

One effective approach is establishing bilateral and multilateral currency swaps. These agreements allow BRICS countries to exchange their currencies directly, bypassing the need for the US dollar. By setting up swap lines, central banks can facilitate the exchange of local currencies, promoting smoother trade relations.

Local Currency Trade

Encouraging and facilitating trade agreements that enable payments in local currencies is another viable option. This approach requires robust financial systems, mutual trust, and mechanisms to manage currency risk and volatility. By trading in their own currencies, BRICS nations would strengthen their economic ties while reducing dollar dependency.

Gold and Commodity-Backed Payments

Utilizing gold or other commodities as a medium of exchange can provide an alternative to dollar-based transactions. This method involves agreeing on commodity prices and using them to settle international trade balances. While it may seem old-fashioned, commodity-backed payments can offer stability and trust in uncertain times.

Regional Payment Systems

Developing and utilizing regional payment systems is a strategic move for BRICS countries. China's Cross-Border Interbank Payment System (CIPS) and Russia's System for Transfer of Financial Messages (SPFS) are examples of platforms that can be used to settle international payments without the need for the US dollar or SWIFT. These systems enhance financial sovereignty and reduce exposure to dollar-related risks.

Digital Currencies and Blockchain

The adoption of digital currencies, including central bank digital currencies (CBDCs), presents a modern solution. Digital currencies can facilitate direct currency exchanges and reduce dependency on the US dollar. Blockchain technology, with its secure and transparent transaction capabilities, offers an innovative way to conduct international trade in local currencies.

Barter Trade

In certain scenarios, countries might resort to barter trade, where goods and services are exchanged directly without using any currency. Although less efficient and more complex, barter trade would serve as a practical means to avoid the US dollar in specific circumstances.

Diversifying Reserve Currencies

Another strategic measure is diversifying foreign exchange reserves to include a mix of other major currencies such as the euro, yen, and yuan. By doing so, BRICS countries could support trade in these currencies and reduce their reliance on the US dollar.

Wrap Up

Implementing these strategies requires significant coordination, trust, and infrastructure development among BRICS countries—there’s no guarantee of any of that. Overcoming legal, regulatory, and market challenges is essential to creating a reliable and efficient alternative to dollar-based trade.

As BRICS nations continue to innovate and collaborate, the global economic order will witness a shift towards a more diversified and resilient trading system.

Have a wonderful, long weekend!