For those who said it would never happen….I give you the M-SDR

Economics, Premium POM

BONUS MATERIAL INCLUDED: Why I’m Afraid of the Cascadia Subduction Zone

By JC Collins

While I was driving through the Rocky Mountain Trench and pondering the North American Craton reader Mark Schoenfelt was digging up some interesting facts on SDR-denominated financial instruments.  But before we get into SDR’s I need to talk about the Craton, as I’m bursting at the seams with disproportionate excitement on this geological wonderment.

Just off the Pacific Coast lurks the Cascadia Subduction Zone. This is where the Juan de Fuca plate is pushing underneath the North American plate.  The zone is locked (not sliding past one another) and massive pressure is building up across the 1000 km stretch of the fault.  Running from Northern California to the furthest tip of Vancouver Island, the Cascadia Subduction Zone is set to produce one of the largest earthquakes in recent memory.

The North American Craton is the seismically stable block of rock which makes up the majority of the continent and acts as a back-stop to the pressure building up along the subduction zone.  As the Juan de Fuca plate is forced deeper underneath the North American plate the region between the fault and the craton is being squeezed and is bending.  The tips of the mountains running along the coast are even starting to point eastward as the whole edge of the Pacific Rim coast line bulges under the pressure.

As with all things I’m interested in, I have devoured as much information and material on the Cascadia fault as is available.  One of the greatest sources of information comes from the studies and risk analysis papers of the pipeline companies who are planning on building crude transportation capabilities from the oil producers and miners in Alberta out to the coast.  The movement in the rock along the craton and everything in between is being measured and studied in an effort to better understand the timing and potential for pipeline breaks in the event the fault ruptures.

Considering I’m directly connected to the oil sands mines (just starting to deliver the largest mining trucks in the world – 400 ton capacity) I pay attention to what is happening on the pipeline front, as it will open up more channels for Alberta’s oil to gain broader access to international markets.  So when I say that the risk of a huge subduction earthquake and tsunami along the Pacific coast line is real and probable in our lifetime, please take it serious and plan accordingly.

Like the changes in the international monetary system, changes in the Earth are just as real, and sometimes take just as long. (Insert sarcasm)  We need to understand those changes and arm ourselves with accurate information.  As I spend the next few weeks in Vancouver I’m sure I’ll be down at the beach waiting for the earth to move and the water to recede.  But while I’m there I will be reading more about the SDR and the geopolitical changes which are rapidly taking place in the world.  (I’ll also be driving Marianne crazy with talk of the craton and the Juan de Fuca plate.  Just say it out loud – Juan de Fuca – cool right?  Now say North American Craton.  Now say Juan de Fuca Plate and North American Craton one after the other. Awesome how they just roll off the tongue.)

Anyway…..

Mark has provided us with the latest new release regarding the SDR from the International Monetary Fund. So many have overtly and aggressively stated that the SDR would never be used in a reserve or broader capacity.  The last few years have taught us all that these changes will in fact happen, but happen at a slower pace than perhaps many of us would have anticipated.

But it is happening nonetheless.

So many living out their lives along the coast think the subduction zone threat is hyped up and won’t really happen.  I suppose it is the same with the SDR.  The human mind is conditioned to want sameness and change is not easily accepted or anticipated.  Seemingly isolated events, like the eruption of Mount St. Helens in 1980 or the financial crisis in 2008, serve as parts of the larger processes of subduction and monetary reform.  But we do not openly see or connect those events to the larger timelines.

We get beach sleepy in between.

From the IMF release:

“Summary: Following the recent diagnostic of the international monetary system (IMS), the IMF will explore whether a broader role for the SDR could contribute to its smooth functioning. The economic rationale for or against broader use of the SDR will be examined, focusing in particular on identifying any gaps and market failures the SDR could help address in light of the increasingly multi-polar nature of the global economy and growing financial interconnectedness.”

“This note sets out some initial considerations on this matter. The note sketches some key issues bearing on the role of the SDR in each of three concepts: (i) the official SDR, or “O-SDR”, the composite reserve asset issued and administered by the IMF; (ii) SDR-denominated financial market instruments, or “M-SDRs,” which could be both issued and held by any parties; and (iii) the SDR as a unit of account.”

“M-SDRs reduce foreign exchange and interest rate risk relative to single-currency instruments, but there are some drawbacks and challenges. The basket nature of M-SDRs would allow the volatility of returns to be lower than for a similar single currency instrument.”

“However, the SDR only represents one of many possible sets of portfolio weights, and issuers or investors could use existing instruments to replicate their preferred weights at a relatively low cost. There are also challenges to market development, including settling and clearing of M-SDR transactions, dealing with potential basket redefinition, and fostering secondary market trading in order to generate liquidity and market depth.”

“There are potential benefits to using the SDR as a unit of account, which have to be weighed against other considerations. Publishing economic statistics and financial statements in SDR terms could help users identify valuation changes. Statistical authorities would need to invest in communicating the rationale for any change in practices.”

“While the official SDR under its current framework is not playing a significant role in the IMS, a re-examination of its role is expected to inform whether any specific reform options should be pursued. The evolution of the IMS has given rise to an active debate on how much concern is posed by high rates of reserve accumulation, global imbalances, and rising claims on reserve issuers, and on whether the O-SDR could contribute to addressing these issues.”

Like movements in the faults around the world, the introduction of the O-SDR and M-SDR are building towards a larger script.  Things are seldom openly announced in advance.  Notice is given through subtle movements and positioning.  The M-SDR has now entered the official lexicon as the differential between reserve SDR and SDR securities.  This label of SDR fragmentation will further the end objective of monetary rebalancing. There is a pattern to all things.

Did I just feel the earth move?  – JC