The BRICS Bank Signals the End of the

American Financial Empire and U.S. Dollar

Hegemony
Dr. Nasser H. Saidi

Posted: 07/21/2014 10:40 am

Establishing the BRICS Bank is a momentous event
The July 2014 BRICS (Brazil, Russia, India, China, South Africa) Summit was a momentous
event, more important than the World Cup that also took place in Brazil. The BRICS sealed the
deal towards the creation of the BRICS development bank and a US$ 100 billion reserve fund,
labelled a "Contingency Reserve Arrangement" that promises to help developing nations avoid
"short-term liquidity pressures, promote further BRICS cooperation, strengthen the global
financial safety net and complement existing international arrangements." The BRICS bank is
expected to strengthen economic and financial relations and cooperation between the members of
the BRICS group, promote mutual investments in addition to providing development funding in
the BRICS group and in developing countries, with a likely focus on the African region. The
BRICS bank will provide loans, guarantees, long-term credits and make equity investments. A
major focus will be on infrastructure, aiming to address a yawning gap in infrastructure finance
for the emerging economies. To illustrate, the ADB estimates that Asia will need some US$
800bn a year of infrastructure investment between now and 2020 -- but, it lends only US$ 10bn a
year for infrastructure. The MENA region countries face a similar infrastructure financing gap of
some US$ 60bn per year, not to mention over US$1 trillion for reconstruction following wars
and violence. Ironically the BRICS bank mission is similar to the original mission of the
International Bank for Reconstruction and Development alias the World Bank, but which went
awry. As founders, the BRICS agreed at the Summit that the capital for the bank would be split
equally among the five nations, giving equal voting power. The bank will have its headquarters
in Shanghai, and the first president for the bank will come from India, while the board will
mainly come from Brazil.
Shifting 'soft power' to the BRICS and emerging economies
The establishment of the BRICS bank marks the delayed shift of 'soft power' from the 'West',
from the US and Europe to Asia and to emerging economies, confirming the shift in economic
and financial weight. The centre of global economic and financial geography has been
progressively shifting "East" for the past three decades, with the epicentre now lying East of
Mumbai. Measured at PPP rates, China will have surpassed the US by 2017 as the world's largest
economy, while India has already surpassed Japan to become the world's third largest economy.
This tectonic shift in economic fortunes and transformation of the global economy is already
evident in changed patterns of production, trade, investment and capital markets: emerging
markets already account for 48% of world trade, with Asia's share alone at 31.5%. In line with
positive growth prospects and higher returns to investment, some 52% of global FDI flows into
emerging markets, with 30% into Asia. Non-OECD economies now account for 65% of energy
markets, with demand from China dominant.
But global institutions have yet to reflect the economic and financial power of the BRICS. The
shift in soft power will unfurl in three main developments over the coming decade: a change in
the governance of the international monetary and financial architecture, the growth of
'Renminbisation' and the emergence of local currency markets in emerging economies.
Changing governance of international monetary and financial architecture
Today, the BRICS account for about 25% of global GDP, 35% of total international reserves
(with China at over US$4 trillion), 25% of total land area and around 42% of the world's
population. However, despite their economic weight, the BRICS have a major power gap in
global economic governance. Their representation, voting power, participation in management
and staff in the Bretton Woods institutions (IMF, World Bank, WTO, and IFC) and others like
the BIS, displays a major deficit of 'voice' and influence. The tectonic shift in world economic
geography has not reflected itself in the governance and management, let alone the staff of IFIs.
The BRICS and emerging countries do not set the agenda but they must bow to the diktats!
Voting power at the IMF disproportionately favours the US 16.75%, Japan 6.23%, Germany,
France and the UK votes add up to 14.39% compared to a total for the 11% for BRICS, of which
China: 3.8%. Despite the BRICS endeavouring to increase their influence of global financial
decision-making, the US and the Europeans have thwarted attempts at IFI reform. The IMF's
voting reforms approved in 2010, ratified by more than three-quarters of the Fund's member
governments are still missing ratification by the US. The new BRICS bank and international
reserves facility are the first building block of a new international monetary and financial
architecture with new institutions and greater 'voice' for the new economic and financial powers
of the XXI century, with a focus on issues relevant to emerging economies. The next global
agreement will be Shanghai I not Bretton Woods II.

Growing Renminbisation is the alternative to US$ hegemony
The second building block of the new international financial architecture is the creation of a
'Yuan Zone'. Currently, global trade and investment flows and payments are mainly
intermediated and settled through the use of the US$ and the Euro. GCC oil sold to China is
priced and settled in US$ through US$ regulated clearing banks, which increases transactions
costs and involves exchange rate and payment risk. In addition, participants in the US$-based
payment system have also been subject to fines and penalties arising from politically motivated
US sanctions. China is today the world's biggest trading nation and its bilateral trade can be more
efficiently conducted using Renminbi (RMB). China's policy is to increase the
internationalisation of the Renminbi: 'Renminbisation'. To date, there have been three main
channels of Renminbisation: the introduction of the RMB as the settlement currency for cross-
border trade transactions, the provision of RMB swap lines between the People's Bank of China
(PBoC) and other central banks and the creation of an RMB offshore market. China now has 24
currency swap arrangements worth some US$ 430bn including a RMB 35bn currency swap
agreement with the UAE central bank. These swap facilities can provide liquidity to finance
bilateral trade and investment flows and can form the basis of a multilateral RMB clearing
system.
By 2015, the RMB will emerge as a global currency alongside the US$ and the Euro. The
growing international use of the RMB will progressively create a 'Yuan Zone' where multilateral
trade can be financed and settled in RMB. Similarly, given China's dominance of international
trade, commodities, goods and services will be increasingly denominated in RMB. In particular,
given China's dominance of GCC energy export markets, it is advantageous for both parties to
price oil and gas and settle in RMB. Indeed, the GCC countries should shift to a currency basket
including the RMB and build up RMB holdings as part of their international reserves, rather than
maintain a hard peg to the US$ which implies a loss of monetary independence.
The growing international role of the RMB will be confirmed in 2015 by its entry into the IMF's
Special Drawing Rights (SDR) basket. But for the RMB to become a truly international means of
payment and asset currency and alternative to the US$ and the Euro, China needs to gradually
move to capital account convertibility and removal of internal distortions, notably interest rate
liberalization, greater exchange rate flexibility and the development of RMB money market
instruments and debt capital markets, the "Redback Market".
Building Local Currency Debt Markets
The third building block then, is the development of local currency money and debt markets
starting with China and India, given their potential size. Developing local currency debt and
Sukuk markets brings multiple benefits: stable access to capital, diversification of monetary
policy instruments, and the creation of a yield curve for pricing financial assets, while
diminishing exchange rate and refinancing risk from financing through 'hard currency' debt. For
China, Renminbisation necessitates the development of an onshore capital market complemented
by domestic policy reforms leading to a changed financial structure, with lower dependence on
bank financing. However, the speed of adjustment and the sequencing of financial sector reforms
are also important. External account liberalisation should be preceded by domestic financial
sector reforms and the removal of internal financial distortions. For the RMB to become part of
international reserves requires broad, deep and liquid Redback financial markets. The unfolding
of the Redback market will dominate international financial markets over the coming decade.
A New Multi-Polar Financial Architecture for a New World Order
A multi-polar world requires a new international monetary and financial architecture. The Great
Financial Crisis and accompanying Great Recession are the final nails in the coffin of the post-
WWII Bretton Woods world order, signaling the end of the American US Financial Empire. The
BRICS development bank and contingency fund are the forerunners of a new multi-currency
world that breaks US dollar hegemony and the domination of Fed monetary policy geared to the
exigencies of US business cycles and economic crises. The US will lose its exorbitant privilege
as the world's reserve currency as the Yuan Zone expands. This will help resolve the US twin
fiscal and current account deficits by imposing fiscal discipline on the US. A multi-polar
financial world with new international financial centres emerging in Mumbai and Shanghai will
be a more stable world, less prone to financial crises or hostage to mal-regulated too-big-to-fail
banks and financial institutions in the too-big-to-fail hubs of New York and London. For the
BRICS and emerging economies a new dawn can arise with better access to finance both within
and across countries, and less prone to disruptive capital flows and irrational exuberance.