Ditching the Dollar: Saudi Arabia Joins mBridge
The dominance of the U.S. Petro-Dollar system is being challenged by the rise of Central Bank Digital Currencies (CBDCs), as exemplified by Saudi Arabia's participation in Project Embridge, potentially reshaping global financial dynamics.
The global financial landscape is witnessing a seismic shift as Saudi Arabia significantly reduces its reliance on the United States Dollar (USD). This strategic move marks a pivotal moment in next-generation finance and global financial systems, with far-reaching implications.
Saudi Arabia has now joined 'Project Embridge,' a China-led initiative for a Central Bank Digital Currency (CBDC) cross-border trial. This project, which began in 2021, includes central banks from China, Hong Kong, Thailand, and the United Arab Emirates, and aims to test CBDCs for cross-border trade and payments. The recent inclusion of Saudi Arabia, officially announced by the Bank for International Settlements, signifies a major step toward diminishing the role of the USD in global oil trade.
Project Embridge has progressed to the Minimum Viable Product (MVP) stage as of Q2 2024, indicating that this initiative has moved beyond theoretical and prototype phases to tangible implementation. This development underscores the project's viability and the potential for significant disruption in the global financial system.
As Saudi Arabia integrates into this digital currency framework, we are poised to witness profound economic shifts. The move away from USD in oil trade transactions represents not only a strategic diversification but also a potential realignment of global financial power. This could have lasting impacts on international trade, currency stability, and economic alliances.
Saudi Arabia's participation in Project Embridge highlights the evolving dynamics of global finance. By embracing digital currency technology and reducing dependency on the USD, Saudi Arabia is positioning itself at the forefront of financial innovation, heralding a new era in international economic relations.
What is Happening?
The Petro-Dollar system has long been at the heart of global commodities trading, anchoring the exchange of staples like wheat, corn, and energy. This system has been a cornerstone of the U.S. economy for over 50 years, channeling global funds into U.S. assets and treasury bonds, allowing America to borrow extensively and sell its debt internationally.
This mechanism has positioned the United States as the primary exporter of inflationary foreign aid and cemented the U.S. dollar as the world's preferred currency. Notably, there are more $100 bills in circulation globally than $1 bills, with 80% of these $100 bills held outside the United States. This international demand helps the U.S. control its Consumer Price Inflation (CPI) via the Federal Reserve system. Recently, the U.S. CPI saw a decline, partly due to the country’s ability to offload excess currency through international investment, trade, and lending.
However, with emerging financial systems like Project Embridge challenging the status quo, the U.S. financial sector is growing increasingly anxious. For decades, the U.S. dollar has held world reserve currency status, akin to the French Franc and British Pound in their prime. Now, as developing nations grow and seek new stages of wealth and economic independence, they are eager to reduce reliance on the U.S.-dominated Petro-Dollar system, shifting towards digital currencies.
This shift signifies a potential transformation in global finance, with Saudi Arabia’s recent participation in Project Embridge exemplifying this trend. As these nations transition from traditional currencies to digital ones, the landscape of global trade and finance is poised for dramatic change.
A common misconception, particularly in the West, is that our money is already digital because we use credit cards and mobile banking apps. However, these are merely digital facades for a system that has existed for generations but is not yet truly digital.
Imagine the 1600s, when people used gold coins for transactions. Gold, being heavy, easy to steal, hard to divide, and not difficult to counterfeit (at least for the purposes of quick-trade) led to the revolutionary idea of paper money. People deposited gold in banks and used paper money as a representation of value. Over time, these paper notes came to represent debt rather than actual gold.
The gold standard, which backed money with gold, ended in the 20th century. Around this time all major global currency systems were being transitioned to digital banking, where money is represented by numbers on a screen, backed by traditional banks and intermediaries that introduced 'counterparty risk.' When you use apps like Apple Pay, Venmo, or PayPal, you aren't sending money in real-time; you're sending an ‘IOU’ that requires a middleman to verify the transaction. These intermediaries charge fees and don't operate around the clock but provide the general public the illusion money is now instant.
Enter the 21st century and the rise of cryptocurrencies. Unlike traditional currencies, cryptocurrencies are completely digital and decentralised. For example, Bitcoin operates without a middleman, eliminating the need for transaction verification by banks. This technology has converted sceptics into believers and investors, despite its issues like volatility and market manipulation. The superiority of this technology has become apparent, prompting central governments to integrate it into their systems, leading to the development of Central Bank Digital Currencies (CBDCs).
The immediate benefits of a crypto-like digital currency, from a governmental perspective, include potentials such as the eventual removal of tax return lodgements as a requirement for citizens, as all monetary transactions will be digitalised. This would negate any need for tax disclosure (tax could be automatically deducted in real time, with losses, gains and claims all processed as they happen). The end result would significantly reduce the taxation department operational overheads per annum, saving billions, whilst increasing the tax revenue collected and reducing tax avoidance. Other benefits include reduced money laundering and increased ease of financial tracking abilities (control) for governing departments.
At present, though, CBDCs are the first step into government bodies and federal reserve banks experimenting with this new technology. CBDCs leverage the benefits of cryptocurrency technology within a regulated framework, aiming to combine the best aspects of both systems. This integration marks a significant step towards a truly digital monetary system, addressing the inefficiencies and limitations of traditional banking while maintaining the stability and oversight of central banking.
Currency Revolution: How CBDCs Are Reshaping Global Finance
We are in the midst of a technological revolution that is reshaping how we communicate, access information, and conduct transactions. Distributed ledger technology (DLT) has introduced new ways to record asset ownership, enabling the creation of financial products like cryptocurrencies. Central Bank Digital Currencies (CBDCs) represent a true digital version of a country’s fiat currency, akin to a national cryptocurrency, using similar technology to transfer value.
Why are central governments adopting this crypto technology? One significant advantage is the ability to provide immediate stimulus relief during crises, such as natural disasters, eliminating delays and lost checks. The implications are broad, potentially enhancing the efficiency of government aid distribution.
However, the introduction of CBDCs also marks a significant shift in global trade dynamics. Traditionally, international trade, particularly in energy and oil, has relied on the Petro-Dollar system. The U.S. has maintained control over these transactions through its banking system. With the advent of CBDCs, countries can bypass the U.S.-controlled financial "highway," conducting transactions without relying on U.S. banks. This shift could challenge the dominance of the U.S. Dollar in international trade.
As of 2024, the U.S. Dollar's status as a global reserve currency is at a 14-year low. Project Embridge, a CBDC initiative, aims to facilitate instant, low-cost value transfers worldwide. It leverages distributed ledger technology (DLT), the same technology that powers Bitcoin, known as blockchain. However, blockchain technology has inherent limitations, often referred to as the "blockchain trilemma": achieving only two of three properties—security, scalability, and decentralisation—at any given time. Project Embridge prioritises security and availability for global trade, potentially sacrificing decentralisation.
For central governments, decentralisation is less critical. However, for users, this trade-off comes with risks and downsides, as centralisation can introduce vulnerabilities and reduce user control.
In conclusion, as the financial world embraces CBDCs, we are witnessing a fundamental shift in global finance. The rise of these digital currencies challenges traditional systems and has the potential to disrupt the long-standing dominance of the U.S. Dollar in international trade. The implications of this shift will unfold in the coming years, reshaping the landscape of global economic relations.
The Expanding Role of CBDCs in Global Finance
The technological revolution underpinning Central Bank Digital Currencies (CBDCs) is advancing rapidly, with Switzerland's Bank for International Settlements (BIS) testing this technology on a large scale. Key players include the central banks of China, Hong Kong, Thailand, and the United Arab Emirates. An additional 27 entities, such as the International Monetary Fund, World Bank, and central banks from Norway, South Korea, and Turkey, along with financial giants like HSBC, Goldman Sachs, and the New York Federal Reserve, are involved. This extensive collaboration underscores the seriousness and potential impact of CBDCs.
The Atlantic Council tracks the development of CBDCs globally, noting that approximately 134 countries and currency unions, representing 98% of global GDP, are exploring this technology. Of these, 44 are in the research phase, 30 are developing their systems, and 36 are conducting pilot tests. Notably, three countries have already launched blockchain-based currency platforms.
Recently, Switzerland's BIS announced that Project Embridge utilises Ethereum's Solidity smart contract language and the Ethereum Virtual Machine, highlighting how established crypto technology is being repurposed for this new financial infrastructure. This development prompts important questions about the implications and risks of CBDCs.
For many outside the U.S., CBDCs offer significant benefits. According to the World Bank, 1.4 billion people globally are unbanked, lacking access to traditional banking services. CBDCs could provide these individuals with access to digital money, reducing the high transaction costs associated with international transfers, which currently average around 6.5% for sending $200. By lowering these costs, CBDCs could facilitate more inclusive financial participation and economic efficiency.
Money With an Expiration Date?
While CBDCs offer numerous benefits, including in the U.S., there are potential risks, particularly for U.S.-based citizens and those in Western countries that rely on the USD for trade. The Atlantic Council warns that CBDCs could fragment the global economy and threaten the USD, possibly leading to a global currency collapse.
Economies operate like balloons: when healthy, the balloon is full. To solve problems, countries print money, inflating the balloon. However, excessive inflation can lead to an economic burst, causing prices to rise beyond affordability and risking collapse.
The Petro-Dollar system provides an exit valve for the U.S. economy. Despite over-printing currency, the excess is exported overseas for energy and trade, allowing the U.S. economy to deflate as needed. The Federal Reserve can adjust interest rates to control this inflation, with an expected rate reduction likely in September 2024 to manage this balance.
A competing CBDC system could shrink this exit valve, prolonging inflation. This prolonged inflation affects affordability in housing, assets, food, gas, and other living costs. The transition to a new financial system with CBDCs may thus pose significant challenges to the current economic stability maintained by the Petro-Dollar system.
As CBDCs evolve, their impact on global and local economies will become clearer, highlighting the importance of carefully managing this transition to avoid prolonged inflation and economic instability.
The adoption of Central Bank Digital Currencies (CBDCs) is set to revolutionise global finance, affecting everyone who uses this new system. One of the most striking features of CBDCs is the ability for the issuing country or bank to impose expiration dates on money, a concept already implemented in China with the digital Yuan. This means that if the money isn't used by a certain date, it becomes worthless.
Why Would Money Expire?
The rationale behind this is strategic. Governments or central banks can encourage spending to stimulate the economy, particularly during recessions or depressions. In times of economic downturn, people tend to save rather than spend, exacerbating the recession. By setting expiration dates, governments can force consumers to spend money, driving economic activity and potentially averting deeper economic crises. This mechanism ensures that money keeps circulating, thereby promoting continuous economic growth.
While this approach can be immediately effective, it comes with significant risks. In China, the long-term impacts of expiring currency are still unfolding, making it essential to monitor how such a policy plays out in a major economy. Additionally, the potential for misuse or unintended consequences is high, as it may lead to forced consumption that doesn't align with genuine economic needs.
Another major concern surrounding CBDCs is privacy. In the U.S., there is considerable debate about the implications of a fully digital currency controlled by the central bank. In March 2024, the chairman of the U.S. Federal Reserve expressed reservations about CBDCs, citing privacy issues as a primary concern. This hesitation underscores the importance of balancing technological advancement with individual privacy rights.
Despite these concerns, the global movement towards digital currencies is gaining momentum. Countries worldwide are adopting blockchain technology and digital currencies, potentially circumventing the U.S. Petro-Dollar system and reducing U.S. economic influence.
The FED-Now System
In response to these global shifts, the U.S. Federal Reserve has launched the FED-Now system, an instant payment platform. Announced in July 2023, FED-Now allows households and businesses to send and receive payments immediately, eliminating the typical three-day hold on checks. While this system isn't a blockchain-based digital currency, it conditions users to expect instant transactions, paving the way for broader acceptance of digital currencies in the future.
The transition to CBDCs represents a significant shift in global finance, with countries outside the U.S. increasingly leveraging blockchain technology. This shift could erode the dominance of the U.S. Dollar in international trade, empowering other nations to bypass the traditional banking system controlled by the U.S.
As CBDCs continue to develop, they offer both promising opportunities and substantial risks. The ability to set expiration dates on money could drive economic growth during downturns but also poses risks of forced consumption and privacy concerns. The ongoing global competition and the rise of digital currencies signal a transformative period in global finance, with the potential to reshape economic power dynamics. As this evolution unfolds, it will be crucial to balance innovation with regulation to ensure a stable and inclusive financial future.
A Financial Crossroads: Petro-Dollar and Emerging CBDCs
The U.S. dollar remains the dominant currency in global trade, but the Petro-Dollar system is now facing significant challenges. Although it currently holds strong based on existing data, a new system is emerging that could potentially disrupt this dominance. This new system, while not without flaws, is gaining traction among countries worldwide.
Saudi Arabia’s participation in Project Embridge signals a shift towards this alternative system. Project Embridge is a collaboration involving several central banks, testing the viability of CBDCs for cross-border payments. The inclusion of Saudi Arabia, a key player in global oil trade, suggests a growing acceptance of CBDCs. This system uses blockchain technology, which offers advantages such as faster transactions and lower costs. However, it also raises questions about privacy and the centralisation of financial control.
We are witnessing a pivotal moment in the world of finance. The potential shift from the Petro-Dollar to a digital currency system could redefine global economic power structures. The adoption of CBDCs could decentralise economic influence, reducing reliance on the U.S. dollar. This change is happening in real time, and its implications could be profound.
Implications and Considerations
There are several key considerations:
Economic Stability: The transition to CBDCs must be managed carefully to avoid economic instability.
Privacy: CBDCs could pose privacy risks, as transactions would be more easily monitored by central authorities.
Global Trade: A new currency system could impact global trade dynamics, with countries seeking to bypass traditional systems.
The dominance of the U.S. dollar in global trade, anchored by the Petro-Dollar system, faces a formidable challenge from emerging Central Bank Digital Currencies (CBDCs). Project Embridge, which now includes Saudi Arabia, represents a pivotal shift as countries explore blockchain technology for cross-border payments. While CBDCs promise efficiency and reduced transaction costs, they also raise significant concerns about privacy and economic stability. As the global financial landscape evolves, the implications of these developments could redefine economic power dynamics, heralding a new era of digital finance.
