For as long as anyone can remember, the U.S. dollar has reigned supreme.
But new geopolitical dynamics may be threatening the dollar’s dominance. According to recent reports, China is pushing Saudi Arabia, the world’s largest oil exporter, to begin conducting its oil deals with China directly in Chinese yuan.
This appeal from Chinese president Xi Jinping represents not only the growing economic ties between China and Saudi Arabia, but a broader move toward de-dollarization, which refers to the declining status of the USD internationally.
While not everyone agrees that this is likely – or even possible – it’s clear that some in the international community seek to create a world less dependent on the greenback. If that happens, even to a small degree, it will seriously impact the global economy.
But how did we get here? Why is the U.S. dollar so closely tied to the oil trade in the first place? How did the world reach such a state of monetary vulnerability? In this article, we’ll examine the phenomenon of de-dollarization, how it came about, and its potential effects on the global economy.
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What is de-dollarization?
De-dollarization refers to reducing the role of the U.S. dollar in international trade and finance. Talk of this trend has been gaining momentum in recent years, and some experts believe it could have significant implications for the global economy.
Several factors are driving the trend toward de-dollarization. One of the most important is the perception that the U.S. has been using its dominant position in the international financial system to advance its interests by imposing sanctions on countries that don’t comply with its policies.
De-dollarization can take multiple forms, including using other currencies for trade settlements, diversifying foreign exchange reserves away from the U.S. dollar, and developing alternative payment systems that bypass the U.S.-dominated SWIFT network.
In recent years, countries like Russia, China, and Iran have been actively promoting de-dollarization to reduce their dependence on the U.S. dollar and protect themselves from the risk of being cut off from the global financial system. They stand to benefit the most from this economic shift. And make no mistake, many countries have been looking to upend this system since its very inception.
The rise of the petrodollar
In the decades following the historic but largely unpublicized 1974 Saudi-U.S. deal to neutralize crude oil as an economic weapon, the petrodollar has been at the center of global trade. This agreement came about as a response to the 1973 oil embargo, which severely disrupted a western world that had grown dependent on foreign oil.
As part of the deal, Saudi Arabia agreed to only sell oil in dollars, and to invest its petrodollars back into the U.S. economy via bonds and treasury bills. In exchange, the U.S. guaranteed Saudi Arabia’s security and provided military equipment. The other OPEC nations followed suit, and by 1975 they had all embraced the petrodollar arrangement, cementing the U.S. dollar as the dominant currency for international trade.
Since this agreement, major oil-producing countries have almost exclusively traded their oil in U.S. dollars, creating a massive demand for the currency and strengthening its global reserve status. In turn, this high demand for the currency has allowed the U.S. to print money seemingly at will and continue running large deficits without suffering the same inflationary consequences as many other countries.
However, as rival nations seek to reduce their reliance on the U.S. dollar and promote de-dollarization, the petrodollar’s future is uncertain. If countries such as China, Russia, and Iran are finally able to successfully purchase oil in their own currencies, the dominance of the petrodollar may falter, further shaking the foundations of the global economy.
Should you be worried?
A stronger Saudi-Sino partnership that leads to pricing oil in yuan per China’s request could create a domino effect in both directions. Other major oil-exporting countries might also start accepting non-USD currencies for their products, and other oil-buying countries might demand a similar arrangement. For example, India could require oil priced in rupees or Japan in yen.
De-dollarization would be a shock to the global economic system – one that is already under significant pressure from high inflation, trade wars, and instability in the banking sector (as evidenced by the Silicon Valley Bank and First Republic collapses). Needless to say, its effects would be particularly strong in the U.S. and its closest trading partners such as Canada, Mexico, Japan, and Germany.
This could lead to several consequences, including higher borrowing costs for the U.S. government, a decline in the value of the U.S. dollar, and a shift in the balance of economic power away from the U.S. and towards other countries like China, Russia, and India.
Fortunately, you’ll have some time to prepare. Even if de-dollarization does gain momentum, it’s likely to be a gradual process that unfolds over many years rather than a sudden event that shocks the global economic system.
What can you do to prepare for de-dollarization?
Some experts argue that de-dollarization is unlikely to have a significant impact on the global economy. The U.S. dollar is deeply entrenched in the global financial system, and replacing it as the world’s reserve currency would be challenging – if not utterly impossible.
But despite assurances from the mainstream press that the tendency toward de-dollarization is a myth, growing international dissatisfaction with Washington indicates that the move towards other spheres of influence is likely to continue. China is unlikely to retreat from its position as a challenging world power, and Russia continues to blatantly oppose Western, dollar-based interests.
This trend poses a risk to all dollar-denominated assets and points toward the need for international diversification. In other words, seeking exposure to assets that can earn in non-U.S. currencies could be a powerful long-term play. And as it so happens, international farmland is a prime candidate for this type of exposure.
To learn more about how geographically diversified farmland can help you prepare for potential de-dollarization, fill out the form below, and someone from the Farmfolio team will contact you with more information.