In the past year, the upper echelons within the Western oil and gas industry have been observing a shift in global energy markets toward China, Russia and India.
Indeed, amid the deepening conflict and escalating uncertainties between Ukraine and Russia, we have witnessed Western sanctions against Russia, and China and India’s willingness to secure energy supplies at “enormous discounts” from the successor state to the former Soviet Union.
However, might closer economic relations between Russia, and China and India—but particularly China—signal a trajectory in falling dominance for the U.S. dollar, which could profoundly impact the U.S. energy markets?
To explore this wavering concern, let us firstly open a brief chapter in history.
Before the onset of the 20th century, the value of a currency was pegged to the value of gold. As a result, a bank would have been limited by its gold reserves when providing a loan. Then, the Bretton Woods Agreement of 1944 established a system where gold became the basis for the U.S. dollar, and consequently, other currencies were tied to the U.S. dollar’s value—those of 44 allied nations to be precise.
But the Bretton Woods system formally ended in 1971 when U.S. President Richard Nixon announced that America would no longer exchange gold for U.S. currency, thus taking the country off the gold standard. Afterwards, the U.S. dollar spiralled into depreciation, but the sale of U.S. oil played an essential role in bolstering its value.
In 1974, the Nixon administration cut a deal with Saudi Arabia, a member of the Organization of the Petroleum Exporting Countries (OPEC). Essentially, the Saudis would designate their crude oil sales in U.S. dollars and obtain American military supplies and equipment. Thus, consistent demand for the U.S. was ensured, especially as other OPEC members negotiated similar deals; hence the term “petrodollar” was coined to denote U.S. dollars exchanged for crude oil exports.
To this very day, the petrodollar still rules—yet, for how long though?
But the era where the U.S. dollar dominates has been in question year after year, not least due to increasing competition from China, which boasts the world’s second-largest economy, the largest consumer of most commodities, and now, its expanding economic relationship with Russia—more specifically, in guzzling up the Great Bear’s crude oil at 40 percent discount.
Indeed, by June 2022, China’s spending on Russian energy had escalated to $25 billion since the warfare between Ukraine and Russia began in February, almost double the value of the same period in 2021.
Since sanctions were placed by Western powers on Russia, be it the United States, the United Kingdom and the European Union, Russia has been looking to the East to secure long-term sales in the energy market, particularly its largest export—crude oil. As a result, its former Cold War rival, China, snapped up a record quantity of Russian crude oil in May 2022, raising purchases to $7.47 billion, about $1 billion more than the previous month and double that in 2021.
Furthermore, Russia’s state-owned energy operator Gazprom agreed to a 30-year contract with China National Petroleum Corporation in February 2022, with 10 billion cubic meters of annual gas set to flow through a new pipeline in the next few years. And in September 2022, the two state-owned energy giants agreed to use Russian roubles and Chinese yuan to pay for Russian gas supplies to China.
How could this increasingly cozy economic relationship between China and Russia effect the value of the U.S. dollar?
Suppose Russia and China are to continue trading crude oil in a currency other than the U.S. dollar. With China now the world’s largest oil importer, what would be the trajectory of the dominance of the petrodollar—and thus power for the U.S. alone?
Furthermore, central banks worldwide are increasingly keen to hold China’s yuan as a reserve currency. According to the Union Bank of Switzerland (UBS) Asset Management’s annual reserve manager survey of June 2022, around 85 percent of central banks said they are invested or are considering investing in the yuan—that’s an increase of 81 percent compared to 2021.
Moreover, the UBS report estimates that reserve managers at central banks, on average, are seeking to hold 5.8 percent of their reserves in China’s currency in a decade, a sharp increase from the 2.8 percent level reported by the International Monetary Fund (IMF) in late December 2022.
According to the IMF, as central banks look to diversify their holdings, the U.S. dollar’s dominance has been dented due to a quarter of reserve managers turning to the Chinese yuan and three-quarters exploring currencies from nations that typically play limited roles as reserve assets. Furthermore, this major financial agency of the United Nations adds that:
“A characterization of the evolution of the international reserve system in the last 20 years is thus as ongoing movement away from the dollar, a recent if still modest rise in the role of the renminbi [Chinese yuan], and changes in market liquidity, relative returns and reserve management enhancing the attractions of nontraditional reserve currencies. These observations provide hints of how the international system may evolve going forward.”
Though the U.S. dollar remains the world’s most prominent reserve currency, with central banks holding around 59 percent of their reserves in the dollar, for China to continue pushing the yuan to take on a more significant share of the global reserve currency, how will the U.S. ensure the top spot in the long term?
Yet, despite the significance of the U.S. dollar in the global markets and despite the dollar being its strongest in two decades, it is ranked as the 9th strongest currency. In contrast, the Kuwaiti dinar has secured the top spot, while the British pound sterling and the Euro hold the 6th and 8th position, respectively.
Historically, the U.S. dollar reached an all-time high in February 1985—before a dramatic plunge by December 1987. Since then, the dollar has experienced steady waves.
Thus far, the Chinese yuan hasn’t made the top ten. But no doubt the Red Dragon is eager to rise and boost its currency. So how will the U.S. manage Chinese competition and retain the value of its greenbacks in the long term?
While the strength of the dollar is holding—albeit wavering—it is still holding. But, now, how do we explain the latest debacle with three U.S. banks hitting rock bottom within days of each other?
On Sunday, March 12, the U.S. Federal Reserve (Fed), U.S. Treasury and the Federal Deposit Insurance Corporation (FDIC) issued a joint statement about New York City’s Signature Bank—that this leading institution in cryptocurrency lending “closed today by its state chartering authority.”
The statement went on to explain they would make a “systemic risk exception” for Signature and Silicon Valley Bank (SVB), a bank focused on the tech and startup sector that was also shut down, allowing both banks’ clients to have full access to their deposits. They added that:
“As with the resolution of [SVB], no losses will be borne by the taxpayer. Shareholders and certain unsecured debtholders will not be protected. Senior management has also been removed. Any losses to the Deposit Insurance Fund to support uninsured depositors will be recovered by a special assessment on banks, as required by law.”
Signature served as one of the leading banks in the cryptocurrency industry—the largest alongside Silvergate, which also announced its impending liquidation on March 8. As of December 31, 2022, Signature had $110.4 billion in total assets and $88.6 billion in total deposits, according to a securities filing. By March 10, it had a market value of $4.4 billion after a 40 percent sell-off this year, according to FactSet.
While the go-to bank for tech startups, SVB, collapsed on March 10, Signature also saw its shares plunge following deposit outflows. New York state officials reportedly said closing the bank was made “in light of market events” to protect the bank’s clients and prevent spreading the crisis throughout the financial system.
Let us pause and recollect a series of extraordinary banking failures. First, California-based, crypto-focused Silvergate announced its upcoming liquidation. Second, SVB imploded only two days later, the largest U.S. bank collapse since the financial crisis of 2008. Third, Signature drowned another two days later.
Yet despite sparked concerns, with many top lenders seeing their stocks plunge, President Joe Biden reassured Americans that the U.S. banking system is “safe.”
“Your deposits are safe,” Biden said in a March 13 set of remarks from the Roosevelt Room at the White House. “Let me also assure you we will not stop at this. We will do whatever is needed on top of all this.”