SDR & the New Bretton Woods – Part Six

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Consolidation or Collapse, and Conspiracy Theories

In recent decades, emerging and developing economies have become bigger players in the global economy. However, their representation at the IMF has not kept pace with these changes. The G20 will continue to pursue reforms to the IMF during 2014 to ensure that country representation at the IMF better reflects the economic weight of its members. These changes will build greater confidence in the IMF’s ability to respond to global economic instability.”

                                                                                                                                                                                                         –  Statement on Reforming Global Institutions on the G20 Website

 There is a unique game of chess taking place on the global economic scene.  And like all good games of chess against worthwhile opponents it takes patience and calculation to strategize every move well in advance.  This particular game began in 2010 when the G20 countries all agreed to enact the International Monetary Fund’s Governance Reforms (or Code of Reforms) to change the quota amounts for member countries and restructure the Executive Board to more accurately reflect the changing dynamics of the world economy.

With the full implementation of these reforms we will see all the currencies of the world that are now pegged to the value of the U.S. dollar shift to a more balanced system of weight values and be pegged to the value of the SDR (Special Drawing Right) as issued by the International Monetary Fund.

The SDR was originally meant as a form of credit but since the collapse of 2008 has been slowly transitioning into a form of money, or currency.  Some of the reasons for the expanded use of the SDR can be found in sets of problems and remedies.  Which are:

Problems in the international monetary system:

  1. Persistent Global Imbalances
  2. Large and Volatile Capital Flows
  3. Unstable Exchange Rate Fluctuations Not Based on Fundamentals
  4. Insufficient Supply of Reliable Global Assets

Remedies for the international monetary system:

  1. Global Policy Collaboration and Stronger System Surveillance
  2. Enhanced Systemic Financial Safety Net
  3. Financial Deepening in Emerging Markets
  4. Development of New Reserve Assets

It’s the last item, development of new reserve assets, which we will focus on in this installment of the SDR and the New Bretton Woods series.

But first let us address the issue of corruption and rampant conspiracy theories which are overshadowing the real process and strategies which are taking place on the global scene.  Next week the 2014 G20 Summit is taking place in Australia.  Two of the many priorities for the G20 this year are anticorruption and reforming global institutions.

G20 Brisbane

The reforming of global institutions is a clear reference to the I.M.F. Code of Reforms which have been held up in the American Congress since 2010.  And we are seeing anticorruption tactics and procedures playing out every week as more and more government officials and top bank directors are being arrested or executed for fraud and crimes against the people.

The problems with the international monetary system as listed above create opportunities for corruption and for rent seeking elite groups to transfer wealth from the larger disorganized groups with no addition of new wealth to the system.  This has caused severe imbalances in the system and can no longer be allowed.

In “What Are Conspiracy Theories” we defined this rent seeking elite and described how one of the tools of the larger disorganized subordinate group (the middle and lower classes) to combat the smaller elite was referred to as “weapons of the weak”.

One of these weapons is gossip.  It is my proposition that conspiracy theories are in fact the unofficial and disorganized structure of this weapon of the weak.  When we are left with no official source of valid information in regards to what is happening in the financial world, we are prone to analyse and function on the lowest common denominator of information sources, which are conspiracy theories.

Some of the black and white or good guy and bad guy definitions of these conspiracy theories are laughable and do nothing but create confusion and misdirection away from a real understanding of the economic situation which the world faces in our modern era.

From mystical beings to secret informants, the ridicules angles and propositions run the gambit of the most profane amongst us.  Nowhere is the truth more hidden than in the midst of the absurd stories and so-called enlightenment of these secret sources and “top men”.  It is a system of maggots feeding on the hopes and dreams, not to mention confusion, of the large mass of disorganized subordinates.

True enlightenment comes from the realization that helping others is helping ourselves.  When you feed off others you are in fact feeding on your own life.  Whether intentional or not, this bottom feeding on each other only helps and encourages the small rent seeking elite to continue in its wealth transition from the masses to itself.

I will pay no further attention to the absurdities of the profane and absurd.  Good and evil exist in the minds and fairy tales of children.  And there they shall remain.

With that being said there is an organized structure or process attempting to bring rule of law and a balanced system to the international monetary system.  This system of change is based on the fundamentals of self-limiting rent seeking elites from large transfers of wealth which only serve to deepen economic recession.  We are seeing this system of self-limiting being successfully implemented in countries such as Vietnam, China, Russia, and India, with more to come.  It is not a perfect process but it is a process nonetheless.

Self Limiting Rent Seeking

This is not China against America.  Or some shadowy group against another shadowy group.  All the information about this new system is already out in the open and available for all who take an interest in learning about it.

Zhou Xiaochuan of the People’s Bank of China is one of the most vocal members of the international community calling for the implementation of this new SDR system.  And a big part of the structure of this new system is the Basel 3 regulations as put forth by the Bank for International Settlements.  So it’s no surprise to learn that Zhou Xiaochuan is in fact one of the board members of the Bank for International Settlements.  This should put to rest any conspiracy theories about China overthrowing the current banking system.

When we hear talk of the Global Currency Reset and the Great Consolidation, what we are reading or hearing is in fact a simplified version of the modifications being slowly implemented in the international monetary system.  Though they will in fact benefit greatly from the consolidation and composition process by way of increased physical assets.

As we have covered in previous essays, the Great Consolidation will be the restructuring of sovereign debt into the new SDR system of compositions and allocations.  Considering that commodities will make up a large percentage of the SDR compositions, it’s important to manage this sovereign debt as the debt itself will eventually, and in essence already is, undermining the commodity prices which will build a basket of goods used to value the SDR’s themselves.

What we’re saying here is that if there is no Great Consolidation (restructuring of sovereign debt through the I.M.F.) than there will be no Global Currency Reset or SDR basket of currencies based on goods and other commodities.

With the new SDR system in place, all the currencies of the world can peg their value to the SDR containing the basket of commodities and other composition weights which we have discussed. With the SDR acting as the reserve currency anchor a fixed exchange rate can be set (or allowed to fluctuate within a band) and the foreign reserves held in dollars will be slowly replaced with SDR reserves.

With a large scale substitution of U.S. dollar reserves with SDR reserves, it will create a situation where less exchange rate pressure is exerted on the U.S. dollar as it attempts to restructure its sovereign debt through the very same SDR consolidation system.

So why hasn’t the Global Currency Reset and Great Consolidation taken place yet?  Simple, the United States Congress has not passed the legislation required to restructure the Executive Board of the International Monetary Fund.  For those who doubt that this is indeed the holdup, a very brief review of the 2010 Code of Reforms themselves should be required.  The U.S. holds 17% of the vote on the Executive Board.  For any measures to pass the required vote is 85%.  The U.S. can veto any resolution or policy change as it sees fit.  It is holding off on restructuring the board and in turn the international monetary system as referenced by the G20 above, as a form of chess game in which it is seeking additional allocations and compositions for the dollars’ value and placement within the system once said system is fully implemented.

Now that Congress has given a blank cheque debt limit increase, the money should be available for increased deficit spending which will increase the U.S. quota injections into the I.M.F. This will allow for the sovereign debt restructuring to begin.

Another probable explanation for the refusal of the Congress to enact the legislation is the likelihood of the exchange rate risk associated with the transition from dollar liabilities to SDR liabilities.  This risk could be captured in a temporary substitution account which would be setup as a form of safety net for the dollars collapse.  Perhaps the United States is negotiating a shared risk instead of sole responsibility for maintaining the dollars SDR composition value on the substitution account as the transition from dollar reserves to SDR reserves takes place.

It is well known by all sides that the dollar cannot collapse without causing the collapse of the new SDR system before it is even fully implemented.  The I.M.F. and the U.S. both require this substitution account as a temporary transition point to ensure there is no sudden drop in demand for dollars.  The transition has to be slow and orderly.

The substitution account will further allow for the direct foreign exchange market intervention for SDR’s which will enhance the attractiveness of the SDR compositions and allocations as laid forth in the capital asset reserve structure of the Basel 3 Regulations.

As foreign exchange in the SDR system increases, account balancing and clearing can be completed by the Bank for International Settlements.  The BIS has already developed a multi-tiered system for clearing and settlement of SDR payments.

Thus we come full circle back to the statements made by Zhou Xiaochuan of the People’s Bank of China, (who just so happens to be one of the most influential economic figures in the world) calling for the SDR system.  And remember, he is a board member of the Bank for International Settlements as well.

Zhou Xiaochuan

If China gets its way and overall economic growth is added to the weights of SDR compositions, which could in fact be used as a method of shared risk within the temporary substitution account, than we will see the SDR system implemented without further delay.

Once all the world’s currencies are pegged to SDR’s and not dollars than we will see a form of global trade which will not only encourage, but also enforce a method of real effective exchange rate stability based on real economic values.  This is where currencies like the Vietnamese dong will be revalued and become a stable form of wealth storage for the people.  See “Why the Vietnamese Dong Will Reset”.

A complete peg to the SDR will promote global trade by removing exchange rate fluctuations and will in essence act as a simulacra of the gold settlement system.  A de facto gold standard.

Let’s us go back to the beginning of this essay and think in term of the chess game again.  The complexity of this SDR system is not easily understood or explained.  It will be sold to the public at large as an extension of what is happening already.  In previous essays we have thought in terms of micro and macro patterns.  Let us do so again, as we consider that the Quantitative Easing through the Federal Reserve will slowly transition into SDR Quantitative Easing through the International Monetary Fund and accounts balanced through the Bank for International Settlements.

As the Fed tapers QE we can expect that it will mean an increase in SDR QE through the I.M.F.  In time this will become more obvious.

Full implementation of the Basel 3 Regulations through the Bank for International Settlements have been extended to 2018.  One can only wonder if this has to be a direct cause and effect to the delay in the 2010 I.M.F. Code of Reforms.

The Basel 3 Regulations are meant to strengthen bank capital requirements by increasing liquidity and decreasing bank leverage.  This increase in capital requirements are broken into two categories:

  1. Tier One Capital – must be common shares and retained earnings.
  2. Tier Two Capital – Supplementary but Harmonised Capital:
    1. Undisclosed Reserves
    2. Revaluation Reserves
    3. General Provisions
    4. Hybrid Instruments
    5. Subordinated Term Debt

It is the Revaluation Reserves that interest us in regards to our essays on SDR composition and allocation.  When foreign exchange reserves are revalued to match the level of economic output and commodity basket or composition of the SDR’s, the banks themselves that hold these foreign reserves will see an upward revaluation of their Tier Two Capital requirements under the Basel 3 Regulations which are meant to support the I.M.F. 2010 Code of Reforms and consolidation of sovereign debt, which will come about when the Executive Board of the I.M.F. is restructured to reflect the economic realities of the emerging markets.

This is the Global Currency Reset and Great Consolidation.  Please refer back to Part Three for a full explanation of the problem/reaction/solution Hegelian Dialectic which is being purposefully played out in the system which we are attempting to explain here.  The process is confusing and convoluted.  Is there any wonder that there are rampant conspiracy theories about it?  You just need to remember that this is a game of chess and not checkers.  The development of new reserve assets takes place through the SDR system or we are likely to face further sovereign debt problems and untethered currency fluctuations.  Its consolidation or collapse, not conspiracy theories.  – JC

SDR’s and the New Bretton Woods – Part One

SDR’s and the New Bretton Woods – Part Two

SDR’s and the New Bretton Woods – Part Three

SDR’s and the New Bretton Woods – Part Four

SDR’s and the New Bretton Woods – Part Five