Greetings from Piedmont, Italy.

There’s a small “war” brewing, if we can call it that, between those market watchers and economists who think de-dollarization is impossible and those who think it’s inevitable.

I’m in the latter camp, but not for the usual reasons.

In fact, I think the arguments against de-dollarization are perfectly cogent. It’s damn hard to detach yourself from a system that’s worked perfectly well for the last eighty years or so.

That the world’s largest economy (perhaps #2 now) with the world’s largest military (perhaps #2 now) and the world’s largest consumer base (far and away #1) runs this system makes it look ridiculous to want to leave.

Heck, Paradigm pays me in USD. I sure as hell don’t want it to collapse!

But then the USG had to do it. It had to weaponize the dollar.

And that’s what will eventually cook the USD’s goose.

Because what we’re looking at isn’t an organic move away from the USD. Or even a passive-aggressive “I hate your deficits” or “You print money and spend it like drunken sailors.”

The argument against the dollar, and the only one BRICS needs, is this: “Eventually, you’ll turn your economic guns on me like you did to Russia.”

The Global South is following BRICS because they want out of debt. And they prefer not to have as many coups as the CIA might have in store for them.

As noted humanitarian Henry Kissinger once said, “To be an enemy of the United States is dangerous, but to be a friend is fatal.”

In this issue, I’ll present for and against dollarization arguments that two intelligent economists have made.

Macro Alf: Against De-Dollarization

Alfonso “Macro Alf” Peccatiello writes The Macro Compass on Substack. I’m a subscriber of his and think he’s extremely knowledgeable about all things macro.

But in this case, I disagree with him. But not for any of the arguments he makes, which I’ll present below.

His latest Substack post is titled “The De-Dollarization Fairy Tale” and it’s worth reading in its entirety.

From the asset side, Macro Alf explains: 

When Brazil exports commodities in USD more than spends USD to import stuff from the outside, the country accumulates USD foreign exchange reserves.

These USDs enter the domestic banking system, and ultimately the local Central Bank is responsible for managing this FX reserve buffer – that means keeping these US Dollars safe and liquid.

In our monetary system, keeping money ‘’safe and liquid’’ means avoiding credit risk and investing in deep and liquid markets that guarantee a painless turnover if necessary (either via selling or repo-ing securities).

The US Treasury market stands out as the global leader in this field: as big as 20+ trillion in size, liquid, and underpinned by a deep repo ecosystem it ticks all boxes.

No capital controls, democratic roots, and the rule of law reinforce the case.

Most importantly, an ample supply of US Treasuries (read: deficits) provides the rest of the world what they need: a safe and liquid asset where to recycle the USD proceeds from their global trades.

Of course, the US Treasury market is over $20 trillion because of the immense debt the US has incurred. But that’s another story for another time.

From the liability side:

USD-denominated foreign debt is huge, and it makes an orderly De-Dollarization not more than a fairytale.

Entities sitting outside the United States have accumulated $12 trillion of USD-denominated debt: this is because to finance global businesses that sell stuff in US Dollars…well, you need US Dollar debt.

I can’t stress how important it is to understand this concept: if you want to break this system and ‘’De-Dollarize’’, you need to deleverage a $12 trillion debt system.

Brazil walking away from USD-denominated trades would hamper its own organic inflows of US Dollars, and Brazilian corporates would be choked under USD scarcity as they need to repay and refinance their USD debt.

When you de-leverage a debt-based system, you are either bidding up the debt denominator (the USD) or you are witnessing tectonic geopolitical events (e.g. wars) where the world order is at stake.

An orderly unwind of the US Dollar is a fairytale: there is no valid alternative for a smooth transition, and de-leveraging the global USD debt-based system would be a very painful process.

Yes. I like that he uses the adjective “orderly.” He’s right, an orderly unwind is highly unlikely. And an unorderly unwinding of the system would indeed be very painful.

But that jibes with my point: the cost and risk of being in the dollar system are too high and countries are now happy to risk the status quo for the unknown.

Stephen Jen: De-Dollarization Has Already Started

Stephen Jen is the CEO and co-CIO of Eurizon SLJ Capital, currency guru, and former Managing Director at Morgan Stanley.

From Kitco (bolds mine):

The dollar's loss of its reserve currency status accelerated last year when the greenback was used against Moscow as part of the sanction package after Russia invaded Ukraine. In 2022, the USD's share as a global reserve currency fell at ten times the average pace of the past 20 years, Jen said in a report.

"The dollar suffered a stunning collapse in 2022 in its market share as a reserve currency, presumably due to its muscular use of sanctions," Jen wrote. "Exceptional actions taken by the U.S. and its allies against Russia have startled large reserve-holding countries, most of which are from the Global South."

According to Jen's calculations, the greenback's share of official global reserve currencies dropped from 73% in 2001 to about 55% in 2021. And in 2022, it tumbled to 47% of total global reserves.

Here’s what I wrote about these stupid sanctions in March of last year. Everyone with a brain (which excludes the entirety of Washington, D.C., and the MSM) called this.

Back to Jen:

"It seems reasonable to speculate that the main driver of the collapse in USD's reserve status in 2022 may have reflected a panicked reaction to property rights being jeopardized. What we witnessed in 2022 was sort of a 'defund-the-global-police' moment, whereby many reserve managers in the world disagreed with the conduct of both Russia and the U.S.," the note said.

"Adjusting for these price changes, the dollar, we calculate, has lost some 11 percent of its market share since 2016 and double that amount since 2008," Jen wrote.

"If the financial markets outside the U.S. could thrive (growing in size and becoming ever more energetic, without being unstable), and if the opposite happens in the U.S., the dollar could very well meet its demise. This is, however, not an imminent risk, in our opinion, though the trends are heading in that direction," Jen described.

Analysts who continue to ignore the de-dollarization trend are being too complacent. "If the U.S. makes more policy errors and abandons the culture of self-examination, there will likely come a time when much of the rest of the world will actively avoid using the dollar," Jen wrote. "While the Global South is unable to totally avoid using the dollar, much of it has already become unwilling to do so."

I agree with Jen. De-dollarization is happening right now, but its effects will take a long time to manifest themselves.

De-dollarization isn’t a moment. It’s a goal… and a process.

Wrap Up

I know I’ve only used two intelligent men’s arguments to illustrate the opposing sides of de-dollarization.

While I agree with Macro Alf’s reasoning, I think his conclusion ignores the intention of most countries in the BRICS and Global South to move on from the US-centric economic model.

I think Stephen Jen has his finger on the pulse of the market. The USD may not lose its reserve currency status for a long time. But when other countries are actively trying to remove themselves from your system, you’ve got big trouble on the horizon.

With all that said, have a wonderful weekend!