Gold or bitcoin: what will replace the US dollar?

Some interesting developments in the murky world of geopolitics to report on this week.

The currency wars are getting hot and it’s looking increasingly likely that the world is going to start moving away from the US dollar as a reserve currency – gold or bitcoin are the front runners to replace it.

The US dollar is running out of road

Writing on her Substack, US economist Pippa Malgrem, who was special assistant for economic policy to US President George Bush and a former member of the president’s working group on financial markets, argues that WWIII has already started.

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“We are in a hot war in cold places: space, cyberspace, underwater, and high places, including the Arctic, and the Himalayas, and in proxy conflicts in places the media give a cold shoulder to like Africa” (not to mention the Pacific). A cold war in hot places then, as well as a hot war in cold places.

One cold place Malgrem doesn’t mention is the hot war that is currency. It’s heating up again.

This week, with the aim of limiting Russia’s ability to finance its war in Ukraine, the G7 nations, the European Union and Australia set a price cap of $60 a barrel on Russian crude oil. This follows the EU’s embargo on Russian crude imports by sea, with similar pledges from the US, the UK, Canada and Japan.

As you would expect, Russia has said it will not abide by such price caps, even if it has to cut production.

Meanwhile, the world’s largest oil importer, China, seems to be slowly opening back up. Cities are easing Covid-19-related restrictions in the wake of recent protests, and it seems the country is set to further relax curbs as soon as today.

I think it’s fair to say that if China had not locked down, its oil demand would have been a lot higher – and so the oil price would have gone a lot higher. The same goes for metals and most other commodities.

And then we have another part of the puzzle. Russia’s President Vladimir Putin did his best bitcoin maximalist impression last week, as he called for an international, independent, blockchain-based settlement network (spoiler alert: it already exists: it’s called bitcoin).

“The technology of digital currencies and blockchains can be used to create a new system of international settlements that will be much more convenient, absolutely safe for its users and, most importantly, will not depend on banks or interference by third countries,” he said. “I am confident that something like this will certainly be created and will develop because nobody likes the dictate of monopolists, which is harming all parties, including the monopolists themselves.”

Here’s the link to bitcoin.org, Vladimir, in case you have self-googled and are now reading this.

Where is this all going?

I have a few ideas. So does analyst Zoltan Pozsar, Credit Suisse’s answer to Led Zeppelin.

The new global reserve currency: bitcoin or gold?

“The oil market is tight,” Pozsar says. The oil price is lower than it might otherwise be not just because of China lockdowns, but because of the US release of its strategic reserves (SPR), as well as from OECD countries. But Saudi Arabia is now low on spare capacity and the SPR is finite. “Recent releases have brought reserves down to levels we haven’t been at since the 1980s. The 400 million barrels left in it isn’t much: it could help police prices for a year if we released 1 million barrels per day (mbpd), half a year if we released 2 mbpd, and about four months if we released 3 mbpd”.

Short of a sudden new surge in supply (where from?) or a sudden reduction in demand, it would seem then that the oil price is going higher.

Russian crude already sells at a $30 discount relative to Brent, which currently sits at $83, he observes, with China and India the main buyers. “In the case of India, it is widely understood that Indian refiners are turning some of the imported oil into diesel for re-export. Buying Russian crude at $60 per barrel (pb) and selling diesel at $140pb makes for a nice crack spread, the petroleum market’s equivalent of 100 bps of spread in the land of OIS-OIS cross-currency bases. India and China thus serve as matched-book commodity traders (instead of Glencore or Trafigura), the former dealing in oil and the latter in LNG, keeping commodities in circulation.”

But Russia may be happy to sell to India or China at that discount – it won’t however cap prices to sell to Europe on point of principle.

Meanwhile, the US needs to replenish the SPR, especially if it wants to control domestic oil prices. “Gone are the days when the US Deputy National Security Advisor warned India and other countries of sanctions if they bought Russian crude oil. The change in tune could be one backdoor mechanism to refill the SPR, and given the $30 dollar discount to Brent that India is paying for Russian oil, this would be below President Biden’s $75 target.”

But if Russian oil is exported for the purpose of replenishing the US SPR, Putin’s not going to like that either. What to do then?

Only accept payments in gold, says Pozsar, not dollars or rupees.

Sound a bit fantastic? “No it is not”, says Pozsar. “Look at the tit-for-tat measures so far: you invade Ukraine, I freeze your FX reserves; you freeze my FX reserves, I make you pay for gas in roubles; the West boycotts my Urals, I’ll ship it east...

...the West caps the price of Urals, let them, but I’ll make them pay in gold. And if some countries re-export Urals to the West, I’ll make them pay in gold too.”

Anticipating geo-politics from my desk in southeast London is probably not wise. The pub is a better location for such pontification. But we have long since argued that the re-financialisation of gold is the most powerful weapon there is in the currency wars and the Eurasian move towards de-dollarisation.

The problem with gold is settlement. You can’t send it over the internet. You have to use banks or gold dealers. If only there was a form of money that you could transfer over the internet from A to B that eliminated the need for trusted third parties …

Oh! There is …