Western powers have imposed unprecedented financial sanctions in response to Russia’s invasion of Ukraine, marking a seismic geopolitical shift that could drive many countries to adopt crypto.
In the modern era, international payments and national reserves have generally been viewed as state property and omitted from punitive sanctions when the U.S. was not itself at war.
But what has happened in recent weeks has remade the landscape. By imposing unprecedented sanctions, freezing Russia’s foreign currency reserves and halting international payments from Russian banks, the U.S., EU and their allies have revealed a newfound willingness to weaponize the dollar-denominated global financial system and potentially leave the world’s smaller states out to dry.
To explain how, let’s first take a step back. The Belgium-based Society for Worldwide Interbank Financial Telecommunication, or SWIFT, is the primary global messaging network for executing transactions between the world’s banks. The system is so effective that many countries also use it domestically, which is why SWIFT sees more than 42 million messages per day.
Any currency can be traded via SWIFT, but more than 40% of its deals are dollar-denominated, so it tends to reinforce the U.S. dollar-based system. It should be no surprise, then, that in 2015, China launched a SWIFT competitor, the Cross-Border Interbank Payment System (CIPS), to boost international use of the yuan.
As a U.S. trade war flared during the Trump era, Beijing linked international investments involving its 70-nation, $1 trillion Belt and Road Initiative to a commitment to use CIPS. Last year, while just 3% of SWIFT payments involved yuan, the number of CIPS transactions increased nearly 60% and the value of CIPS transactions increased more than 80%, to 64 trillion yuan.
In 2017, Russia launched its own SWIFT competitor, the System for Transfer of Financial Messages, or SPFS. It’s been less widely embraced due to higher transaction costs and because Russia’s economy is one-tenth that of China's. But since the imposition of Western sanctions, Moscow has heavily promoted SPFS use to key trade partners that are also Western allies, such as India, Israel and the United Arab Emirates. And Moscow’s leverage comes from its oil and gas exports.
Payment in rubles
The international oil and gas market is worth nearly $6 trillion, or 7% of global GDP, which is why nearly every domestic economy responds so sharply to shifts in the price of crude oil. Since a deal between the United States and Saudi Arabia in the 1970s – an agreement that gave us the term “petrodollars” – oil and gas have been priced and quoted exclusively in U.S. dollars.
But that may soon change. Russia has pressured European importers of its oil and gas to pay in rubles. While Germany and others have declined, Hungary agreed. China has for years been seeking to buy oil in yuan, and last month The Wall Street Journal reported that Saudi Arabia is seriously considering the proposal. This would represent the greatest challenge thus far to the dollar-denominated global system.
It doesn’t take Nostradamus to see what’s taking shape. Once major players like Russia, China and India align, it’s only a matter of time before smaller countries are pressured to fall in line. The end result will be a bifurcated international financial system, SWIFT versus non-SWIFT.
It’s also easy to see how smaller, less powerful states would be interested in a third option – a neutral reserve currency and payment system that’s immune to weaponization. Suddenly they would no longer be at the financial mercy of global powers.
Crypto as an alternative monetary system
How might we get there? One possible route is pricing. Businesses prefer to denominate their goods in the same currency they use to pay expenses, which tends to be the currency of the country in which they are based. A U.S. airline, for instance, will price its tickets in USD – not because it views the dollar as the most stable currency, though it may, but because it has agreed to pay salaries and fuel costs in U.S. dollars.
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But what about the Kyoto-based businessman, you may wonder, who buys his U.S. airline tickets online in yen? No matter which currency the buyer uses, the goods or service has been denominated in the currency chosen by the business; its value is thus pegged to the U.S. dollar.
This is precisely why businesses dislike committing to buy overseas goods in a foreign currency, because they must then take on the fluctuation risk of that currency. Many end up buying complex financial instruments like futures and swaps to limit this risk. For businesses to start pricing in Bitcoin, their costs will need to be denominated in the same currency.
El Salvador plunged in last year and adopted bitcoin as legal tender. Last month Ukraine made Bitcoin and a handful of other currencies acceptable currency for payments. The tipping point may be a major gas exporter, like Venezuela or Qatar, similarly adopting cryptocurrency and pricing some oil exports in bitcoin. Once oil and gas can be denominated in cryptocurrency, we’re likely to see businesses start pegging their goods and services to crypto.
Now, as countries begin to grasp that aligning with either the dollar-based system or the Sino-Russian system leaves them exposed to geopolitical winds, the pressure is building. For the moment, dollar dominance isn’t so bad. Making payments is instantaneous, and replacing these systems with stablecoins or some sort of central bank digital currency (CBDC) tomorrow would likely only offer almost imperceptible improvements.
Most would wonder why the switch had been made at all. Only when goods and services are denominated in crypto will it be worthwhile for consumers to shift away from dollarized payments. After that, global economic players will begin to view crypto as a viable unit of account for goods and services, and perhaps for everyday payments as well.
For smaller countries looking to preserve their financial sovereignty and avoid geopolitical fallout, that day, when cryptocurrencies emerge as a viable solution, could mark a new dawn.