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BRICS - Is it a real threat to USD?

Introduction


BRICS countries, acronym for Brazil, Russia, India, China and South Africa, represent major emerging economies with rapid growth of GDP and abundant strategic natural resources. These countries, originally referred to as "BRIC" before the inclusion of South Africa in 2010, are known for their significant influence on regional and global affairs due to their large populations, expanding economies, and growing geopolitical importance.

The term was first coined by economist Jim O'Neill in 2001. O'Neill, who worked for Goldman Sachs at the time, used "BRIC" to describe the four rapidly developing economies that he believed would play a significant role in the global economy in the coming years.

The BRICS states are located on three continents with major differences in history, anthropogeography, culture, social and political heritage and organization, as well as policies. The group includes China and Russia, both of which are nuclear and military powers and have the right of veto in the United Nations Security Council. India, whose population has already exceeded the size of the population of China, is also the fifth largest economy in the world and a nuclear power. Brazil ranks twelfth on the list of largest economies in the world and it is the biggest state in South America. While South Africa is not the largest economy in Africa, it is a very economically developed country and it has a significantly large political heritage as a democratic country. The addition of South Africa in 2010, was seen as a way to incorporate the African continent into the group, to enhance the geopolitical representation of emerging economies.

Although the group is not a formal multilateral organization (no standing secretariat), such as the UN, it has a high level of political interactions, such as annual summits and a meeting of a number of expert bodies. BRICS evolved into a forum for resolution of critical global issues, such as trade, finance, climate changes and energy security, as well as reduction of the dominance of the West over the third-world economies through the US dollar.


At this year’s summit 43 countries have expressed an interest to join the BRICS group, while 23 states have applied for formal membership (Egypt, Algeria, Argentina, Bahrein, Bangladesh, Belarus, Bolivia, Cuba, Ethiopia, Honduras, Indonesia, Iran, Kazakhstan, Kuwait, Marocco, Nigeria, Palestine, Saudi Arabia, Senegal, Thailand, United Arab Emirates (UAE), Venezuela and Vietnam). Russia rushed to support the candidacy of three of its allies: Belarus, Iran and Venezuela, while Brazil, according to the words of its President Lula da Silva, called for focusing on the unity, rather than attempts to oppose the United States, G7 group, and the G20 group. India also expressed concerns regarding the enlargement process, considering it a method to amplify the influence of China, as the state with the largest economy in the group.

Due to the lack of consensus between the participants of the BRICS summit, they invited only six states: Argentina, Egypt, Ethiopia, Iran, United Arab Emirates and Saudi Arabia to join the group. Their membership shall commence in January 2024, apart from Argentina. His new President in fact, Javier Milei, has withdrawn the country from its planned entry.

BRICS currently makes for 23% of the global GDP, 42% of the global population (3.2 billion) and more than 17% of global trade. Also, it possesses 50% of gold and currency reserves in the world. The latest data have shown for the first-time superiority of the BRICS group over the group of industrially most develop countries in the world, the so-called G7: Canada, France, Germany, Italy, Japan, United Kingdom and United States. According to the data, BRICS bloc currently accounts for 31.5 % of global GDP, surpassing the G7, which currently accounts for just 30.7%. It is expected that by 2040 the BRICS group will account for more than 50% of the global GDP, because of its enlargement.


In 2014 the member countries established the New Development Bank (NDB) with an initial capital of 50 billion dollars. The bank is an alternative to the World Bank and the International Monetary Fund for the funding of infrastructure and sustainable development projects. Dilma Rousseff, the former Brazilian leader and NDB president, revealed plans for the bank to lend in South African and Brazilian currencies to diversify away from the dollar, in addition to Chinese Renminbi, already used as lending currency. The NDB is considering applications from 15 countries for membership, with a focus on geographic representation diversification.  The NDB has already lent $33bn for infrastructure and sustainable development projects and has incorporated non-BRICS nations Egypt, Bangladesh and the United Arab Emirates as additional members, with Uruguay in the final stages of admission. Rousseff revealed on June 1 that four more countries have been approved as new members: Argentina, Saudi Arabia, and Zimbabwe. BRICS bank has also tried to distinguish itself from the World Bank and IMF by not setting lists of political conditions on loans.


Rousseff said lending in local currency would allow borrowers in member countries to avoid exchange rate risk and variations in US interest rates. The NDB president stated that local currencies are not an alternative to the dollar but to a unipolar system, which can be transformed in a multilateral one. Despite challenges, including a downgrade by Fitch due to Russia exposure, the NDB sees potential for growth.

The BRICS countries have also established the contingency reserve arrangement (CRA), a mechanism aimed at ensuring liquidity for member-states when they are confronted by short term balance of payment crises. These initiatives demonstrate the intent of the group to establish institutions that represent the interests of the rising economies and constitute an alternative to the existing global financial institutions that are dominated by the West.



Brazil BRICS’ proposal and US dollar weakening maneuvers


The Brazilian proposal to create a single BRICS currency (made by its president Lula at the Johannesburg summit in summer 2023) has pushed the debate about its potential impact on the US dollar, the world’s preeminent reserve currency.

Several factors could contribute to the dollar’s decline in the event of a BRICS currency:

A BRICS currency would provide a more diversified alternative to the dollar, making it more attractive to central banks seeking to reduce their reliance on the US currency. If BRICS countries increasingly invoice their trade in the new currency, it could further reduce global demand for the dollar.

The combined economic strength of BRICS countries, which account for a significant portion of global GDP, could boosy the attractiveness of the proposed currency.

China, the largest holder of US Treasuries, has been gradually reducing its holdings. This trend could accelerate if a BRICS currency gains traction.

The potential impact of a BRICS currency on the dollar is further strengthened when considering other economic maneuvers that could be employed simultaneously.

The BRI (Belt Road Initiative), a massive infrastructure investment program, could promote the use of BRICS currencies in trade and investment within the BRI network.

Continued efforts to develop BRICS financial markets could enhance their capacity to facilitate international transactions in their currencies.

The BRICS currency is very unlikely to immediately replace the dollar but it could gradually undermine its dominance and reshape the global financial landscape. The combined economic factors discussed, including the BRI and financial market development could accelerate the dollar’s decline. As BRICS economies continue to grow, their currencies could gain broader acceptance and influence in international trade and finance. This shift could ultimately lead to a more diversified global currency system that no longer relies uniquely on the dollar.




The Challenges to the U.S. Dollar's Global Dominance


The U.S. dollar holds the position of the world's primary reserve currency and is widely used in international trade. However, its dominance is under scrutiny, particularly amid the Russia-Ukraine crisis as geopolitical shifts have brought the risk of de-dollarization into focus.

Specifically, U.S. sanctions on Russia have made some nations cautious of over-reliance on the dollar. Additionally, the strong U.S. dollar, coupled with current interest rates, is proving costly for emerging economies, prompting some to shift towards other currencies. For example, in July Bolivia joined Brazil and Argentina in utilizing the Chinese Renminbi for trade.

One scenario that could undermine the dollar's status involves adverse events impacting the safety and stability of the U.S., such as increased domestic polarization. The second factor is related to positive developments outside the U.S., enhancing the credibility of alternative currencies, like economic and political reforms in China.



De-dollarization in currency markets


De-dollarization in currency markets has the potential to diminish institutional, investor, and corporate demand for the U.S. dollar, possibly leading to a decline in its value. Despite some emerging signs of de-dollarization in currency markets, the U.S. dollar continues to maintain its dominance. While overall dollar usage has decreased, it remains within long-term ranges, with its share still elevated compared to other currencies. In terms of foreign exchange (FX) volumes, the dollar's share is at 88%, near record highs, and its share in trade and foreign currency debt issuance has remained stable over the past two decades. However, de-dollarization is evident in FX reserves, where the dollar's share has reached a record low of 58%.

Regarding potential threats to replace the dollar, we should mention China's efforts to internationalize the Renminbi. However, despite consistent growth, the Renminbi's global presence remains relatively small, constituting only 2.3% of SWIFT payments compared to the dollar's 43% and the euro's 32%.

With China's increasing significance in global commerce, one might expect the renminbi to play a more substantial role in the global economy over time. However, this transition is likely to unfold gradually over decades and would require reforms such as relaxing capital controls, market opening, measures to boost market liquidity, and promoting Chinese government bonds as an alternative to U.S. assets and the dollar.





De-dollarization in oil markets


In oil markets, signs of de-dollarization are becoming evident, marking a shift in the traditional dynamics where the U.S. dollar heavily influenced global oil prices. Traditionally, the dollar and oil prices exhibited a negative correlation, with a stronger dollar leading to increased imported oil prices and reduced demand, especially in emerging markets. However, there's a notable trend of more oil transactions occurring in non-dollar currencies like the Renminbi. Russian oil sales, for instance, are now often conducted in the local currencies of buyers or currencies perceived as friendly by Russia.

Examples include Indian refiners paying for Russian oil in dirhams via Dubai-based traders, with considerations for yuan payments as well. Saudi Arabia is exploring the acceptance of payments in various currencies.




Is de-dollarization imminent? 


In conclusion, while marginal de-dollarization is predictable, the prospect of rapid de-dollarization is unlikely due to the absence of a viable substitute for the U.S. dollar, given the insufficient trade among BRICS nations to support a unified currency. Instead, a more plausible scenario is partial de-dollarization, where the Renminbi assumes certain functions of the dollar among China's trading partners. Over time, this shift could give rise to regionalism, establishing distinct economic and financial spheres of influence where various currencies and markets take on central roles.

Rather than a single alternative to the US dollar, the prevailing trend suggests the emergence of new currency blocs characterized by some permeability. These blocs are expected to form through bilateral and multilateral trade agreements, in regions such as the Middle East, China, South America, West Africa, and others. Consequently, this evolution may contribute to a gradual erosion of the U.S. dollar's dominance in the global economic landscape.





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