Will a new world monetary order emerge from the Ukraine crisis?
What is money, when even 'safe' money can be taken away?
Is the world about to witness a new monetary order?
Mr Zoltan Pozsar thinks so. The Credit Suisse strategist and former United States Federal Reserve and US Treasury Department official, said the current Bretton Woods II order crumbled when the G-7 countries froze Russia's foreign exchange reserveslast month.
Put simply, central bank money does not look like the risk-free form of state-guaranteed money it was made out to be.
The unfolding global commodities crisis, wrote Mr Pozsar in a March 7 note, will also weaken the Eurodollar system, lead to inflation in the West, and spark an evolution "from the Bretton Woods era backed by gold bullion, to Bretton Woods II backed by inside money (Treasuries with un-hedgeable confiscation risks), to Bretton Woods III backed by outside money (gold bullion and other commodities)".
What is Bretton Woods?
To understand today's monetary system, one has to go back to the gold standard in the late 19th century, when governments fixed the value of their currencies to gold. This became untenable during the Great Depression, as one country after another reneged on its commitments and devalued its currency.
In 1944, Allied nations had another go at building a monetary order at a conference in Bretton Woods, New Hampshire. They came up with additional safeguards via the International Monetary Fund and the World Bank, and pegged gold as the basis for the US dollar, with other currencies pegged to the greenback.
But amid the US' sagging trade balance and inflation in the 1960s and 1970s and a rapidly deteriorating payments situation, President Richard Nixon suspended the convertibility of the dollar into gold on August 15, 1971. This gave rise to what Mr Pozsar calls Bretton Woods II, backed by "inside money" or the dollar, which has no tie to gold or any other anchor.
The basis of this system, which has operated for nearly half a century, is now being called into question.
Major shift or too early to tell?
The Central Bank of Russia holds nearly US$630 billion (S$849 billion) of reserves. Around two-thirds held overseas are essentially locked down by sanctions. Not being able to use this severely undermines the central bank's ability to stabilise its exchange rate and meet its international payment obligations.
In a commentary published on the Official Monetary and Financial Institutions Forum website, the German Council on Foreign Relations observed that while Russia has reduced its holdings of US dollar reserves to just 7 per cent, the EU holds by far the largest store of Russia's reserves, with France and Germany combined at more than 21 per cent. Among friendlier jurisdictions which may allow Moscow access to its assets, China holds around 14 per cent.
The sanctions send the signal that central bank reserves are now worth only as much as the dominant reserve currencies issuing them want them to be.
The implications of this would not be lost on China, a key backstop for Russia. It will want to diversify its reserve holdings out of Western currencies and invest in commodities.
Mr Pozsar said the People's Bank of China is faced with two options to protect its interests: sell Treasury bonds to buy Russian commodities, or do its own quantitative easing such as printing renminbi to buy Russian commodities.
He expects both scenarios to mean higher bond yields and higher inflation in the West - resulting in a much weaker US dollar, and a much stronger renminbi backed by a basket of commodities.