The world could be on the verge of a new international monetary system because of the Ukraine War, the fall of oil, the rise of China, and the decline of the United States.
Two features shape the current international monetary system: a single-reserve currency and oil. Those defining features could soon disappear, which could change the international monetary system beyond recognition.
A reserve currency is the fiat currency major financial institutions use for transactions. The current global reserve currency is the US dollar.
Why the World Needs a Reserve Currency?
Having a single reserve currency simplifies the international financial system because all large financial institutions make most transactions in dollars. Hence, most international transactions are fast and simple. There’s no exchange rate, conversion, or Forex involved.
More importantly, both parties in the transaction use a currency they can spend almost anywhere on Earth. A single-reserve currency makes reporting simple and creates enormous global markets.
International markets are vast yet simple because there’s just one reserve currency. For example, a Saudi who sells oil knows he can use the proceeds to buy bonds or stocks in London or Shanghai with dollars.
Without a reserve currency, the trader could have to sell the dollars to buy yuan to trade in Shanghai or pound sterling to trade in London. No reserve currency will make trading more complex and expensive.
The Saudi trader will have to pay Forex and other fees just to buy stocks or bonds in different markets. Without a reserve currency, trading will get more complex, expensive, and cumbersome. Lack of a reserve currency will add more middlemen and costs to the trading process.
The End of the Dollar
I don’t think the global economy can function without a reserve currency. However, there is no guarantee the world will have just one reserve currency.
I think the world could have several reserve currencies. To explain, the US dollar is the world’s reserve currency because the United States has been the world’s largest economy and most powerful nation since the end of World War II.
That could change with the rise of China and the decline of American power. I think the world could soon have two or three reserve currencies because of oil.
One reason the dollar is the reserve currency is that the only currency most nations will accept in payment for oil. However, a major oil producer is moving to accept both the dollar and the Chinese Yuan for oil.
Officials are trying to negotiate a deal that will allow traders to buy Saudi Arabian oil with yuan. The Saudis are not dumping the dollar, instead, they could add the Yuan. Hence, they could create an international oil market with two currencies.
Several Reserve Currencies
That could lead to two reserve currencies: the dollar and the yuan. The next logical step will accept other currencies, such as the Euro, or the Japanese Yen for oil.
Thus, the world could have several reserve currencies instead of one. I think that could lead to a completely different international monetary system.
That system will be far more volatile and prone to inflation because it relies on different currencies. I think there will be far more trading and speculation in a multiple reserve currency system which will lead to more volatility.
For example, a company buying Saudi oil will buy it in the cheapest currency possible to get the most spending power. If the yuan price is lowest, the company will buy in yuan. There will be more currency trading and speculators will get richer.
A probable outcome is a world with three or four reserve currencies. For example, US Dollar, Euro, Yuan, and Japanese Yen. The reason for this is simple: the four largest economies are the United States, the People’s Republic of China, Japan, and the Federal Republic of Germany, which uses the Euro. The world’s sixth and eighth largest economies, France and Italy, also use the Euro.
Two other possible reserve currencies are the British Pound Sterling and the Indian rupee. The United Kingdom is the world’s fifth largest economy and the Republic of India is the world’s sixth largest economy. Notably, Indian buyers are making massive purchases of Russian oil, which could lead to a rupee-for-oil market.
The New Monetary System
If separate oil markets using different currencies arise, it could lead to three or four reserve currencies of equal status. This will be an unprecedented situation because, the modern world has had one reserve currency.
The first reserve currency was the British Pound Sterling, which was the reserve, as the modern banking system arose in the 19th century. In the 20th century, the US Dollar replaced the pound sterling as the British Empire collapsed in the two world wars.
The dollar remained the reserve currency for decades because the United States had no serious economic rivals. To explain, America’s Cold War rival. the Soviet Union, lacked a modern economy.
In contrast, America’s three biggest modern rivals, China, India, and the European Union, have modern economies. Each of those rivals has serious problems, but they compete directly with the USA, unlike the Soviet Union.
The danger from multiple reserve currencies is that there will be no one authority regulating them as the US Federal Reserve regulates the dollar. Instead, the world will have three or four competing monetary policies.
Additionally, there will be more openings for alternative reserve currencies, such as Bitcoin (BTC) and the Swiss Franc. Smaller oil producers, in particular, will have a powerful incentive to ask for Swiss Francs or Bitcoin payment. Those countries will want to avoid American, European, Indian, or Chinese domination.
Hence, there will be more efforts to ban or destroy cryptocurrencies or implement central bank digital currencies.
How Elon Musk could upend the Global Monetary System
Strangely, one man could upend the entire global monetary system. His name is Elon Musk.
Musk threatens the monetary system because his company Tesla Motors (TSLA) proves electric vehicles (EV) are a viable alternative to petrol and diesel-burning autos. Tesla’s EV production rose from 102,672 vehicles in the first quarter of 2020 to 305,407 vehicles in the first quarter of 2022, Statista estimates.
Tesla achieved that production with just two auto factories, Freemont, California, and Shanghai. Tesla just put two giant gigafactories into production in Berlin and Austin, Texas. Electrek claims the Berlin Gigafactory will produce 1,000 Model Ys a week by the end of April 2022. Musk opened the Austin Gigafactory on 8 April 2022.
Musk claims Tesla could produce 1.5 million vehicles in 2022 with the two new factories. Hence, large-scale electric car production has begun.
Other companies, including Rivian (RIVN), Volkswagen, Ford (F), General Motors (GM), BYD, Xpeng, Tata Motors (TTM), and Nio, are copying Tesla’s business plan. Rivian, for example, is planning to build its own gigafactory in Georgia. Similarly, Volkswagen plans to invest $7.17 billion to build battery-electric vehicles and offer 25 EV models in North America.
A New International Monetary System is Coming
I think oil consumption and the need for a reserve currency could decrease if EV use becomes widespread. To elaborate, there are many ways to generate electricity including coal, wind, gas, hydroelectric, solar, nuclear, and geothermal.
Thus, the world could have less use for a reserve currency. In particular, many smaller countries will not need to buy oil for vehicles and have less need of a reserve currency.
How that will work is unclear. However, there is one certainty, the global monetary system could be very different in a few years. Speculators and investors need to get ready because a new international monetary system is coming.