In recent times, there has been a growing call among countries to trade in currencies apart from the US dollar due to the economic disruption caused by Western sanctions against Russia and its subsequent eviction from international dollar-trading systems like SWIFT. In April, the BRICS nations announced their plans to introduce their new reserve currency. While each of the BRICS nations has its reasons for supporting this initiative, vital questions arise regarding the adoption of the new currency and its feasibility. This article seeks to examine BRICS’ capability to develop a new global currency like the US dollar and India’s challenges concerning the same.
Need for a common currency?
BRICS is actively considering internal trading in domestic currencies. However, a common currency will not only boost intra-BRICS trade but also eliminate the high dollar conversion costs of international transactions.
As a first step, member countries led by India and China have already started exploring mutual trade settlements in national currencies. Once the transition to national currency trading is made, BRICS will actively consider introducing and circulating a digital or an alternative currency.
Russia is trying to avoid US sanctions by challenging the dollar-dominated financial system, while China is promoting the Renminbi as an alternative.
However, each of the BRICS countries supports this new initiative for different reasons. Russia and China are at the forefront of the de-dollarisation move for their political interests. Russia is trying to avoid US sanctions by challenging the dollar-dominated financial system, while China is promoting the Renminbi as an alternative. Since more than 17 percent of its reserves are in Renminbi, Russia has a greater preference for transacting in Renminbi.
On the other hand, India, South Africa, and Brazil have their own pragmatic reasons for supporting the move. Reduced dollar dominance of international transactions will make it easier for these nations facing a dollar crunch to repay their debts owed to international organisations.
A 2019 study by Global Business Review compared the regime-switching behaviour of the real exchange rates of the five BRICS nations before and after the group’s formation. It concluded that the inclusion of a stronger policy interaction in the region, especially in monetary management, unveils the chance of a strong currency union amongst BRICS members.
BRICS as a global currency
The second key question about the new currency is whether BRICS fulfils the necessary criteria for building a global currency compared to the US. These include:
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Greater economic size
According to the Bank for International Settlements, the US Dollar is the most traded currency, accounting for nearly 90 percent of global foreign exchange transactions. One of the reasons for the dollar being a dominant currency is the US being the world’s largest economy with a GDP of around US$25.46 trillion, i.e., 24 percent of the world’s GDP. The greater a country’s national income, the greater the demand for its assets, which leads to a greater need for holding that country’s currency. The BRICS bloc, on the other hand, has a GDP of over US$32.72 trillion, i.e., 31.59 percent of the world GDP. Collectively, BRICS project a much greater economic heft size than the US.
One of the reasons for the dollar being a dominant currency is the US being the world’s largest economy with a GDP of around US$25.46 trillion, i.e., 24 percent of the world’s GDP.
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Growing financial outreach
The US has a large and sophisticated financial system that comprises a network of banks, investment firms, and other financial institutions capable of handling complex international transactions. Investors worldwide prefer to buy dollar-denominated securities for their safety and high liquidity in exchange for dollars. In 2014, BRICS established the New Development Bank (NDB) as an alternative to international organisations such as the World Bank (WB) and the International Monetary Fund (IMF). The NDB’s Contingent Reserve Arrangement (CRA) liquidity mechanism has attracted many developing countries to join BRICS’ arrangement. These nations were facing a shortage of their dollar reserves and were unable to settle their international debts. Besides, the IMF’s structural adjustment programme mandated these countries to reduce government expenditure and increase privatisation and deregulation. The resulting inability to frame independent policies forced such nations to turn to the NDB for loans and development assistance. The NDB has also issued bonds denominated in local currencies. These developments indicate BRICS’ growing financial outreach for utilising its liquid assets.
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Military strength
Given its strong military power and dominant position in global politics, the US enjoys considerable influence over international affairs. This global clout has helped the US reinforce the dollar’s position as an assertive and unchallenged global currency. However, the BRICS bloc includes Russia, China, and India, which have the strongest militaries after the US, as per the Global Firepower Index. Russia ranks second, China third, and India ranks fourth. However, the possibility of a military alliance was ruled out in 2018 as the main aim of the bloc is to enhance cooperation with developing countries. Besides, the possibility of such an alliance is bleak, given the ongoing border standoff between India and China and the divergent stand of the two countries on several contemporary and emerging geopolitical and geostrategic issues.
The IMF’s structural adjustment programme mandated these countries to reduce government expenditure and increase privatisation and deregulation.
India’s challenges
The third and most important question is what challenges India must overcome while adopting the new BRICS currency.
The foremost challenge is of political intentions behind de-dollarisation trumping the practical reasons for the same. In an attempt to promote national currencies, Russia will have a greater preference for transacting in the Renminbi over the Rupee despite the Rupee-Rouble arrangement between India and Russia. This would lead to a clash of interests, resulting in disputes within the bloc that could disrupt the first step, i.e., the transition to national currencies, making it less likely for bloc members to explore the possibility of introducing an alternative common currency.
The second challenge is increased dependence on China as BRICS inches towards being a currency union like the EU. This is highly probable as China occupies a major share of the BRICS GDP. The intra-BRICS trade might get liberalised to the degree that member countries would substantially reduce or waive tariffs on each other’s imports. This could lead to a rise in the bilateral trade deficit, especially with China. Greater dependence on Chinese goods will increase Chinese influence and lend China a more significant say in setting the bloc’s trade rules, potentially giving rise to another form of hegemony.
The intra-BRICS trade might get liberalised to the degree that member countries would substantially reduce or waive tariffs on each other’s imports.
The third challenge is the risk arising from exchange rate volatilities in a member nation. Given the steep decline in the value of the South African Rand, it becomes essential to set a band within which a BRICS member currency like the rand ought to fluctuate. However, it is hard to determine such a fluctuation band due to the lack of a defined set of convergence criteria every member must follow before joining the BRICS currency union.
Conclusion
The above scenarios raise doubts about India’s readiness to adopt the BRICS currency. Given the divergences among BRICS members, it is unclear whether the benefits of a common currency will outweigh the costs. Although an alternative currency effectively eliminates the cost of dollar conversion during international payments, the BRICS members might have to exercise caution before taking a step towards building a new currency as their actions could go against their individual foreign policy interests, considering their different reasons for supporting this new initiative.
Kanishk Shetty is an intern with the Geoeconomics programme at the Observer Research Foundation
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