Welcome to our Friday mailbag edition!
Every week, we receive some great questions from your fellow readers. And every Friday, I answer as many as I can.
This week, the conversation continues around the all-digital dollar I’ve been warning about – and what I’ve called a “death by a thousand cuts” for the petrodollar…
I travel abroad. Will a cup of coffee be the same price in CBDCs around the world?
– Gene R.
Hi, Gene, thank you so much for that question.
I’m an avid traveler myself. There’s no better way to understand the world than to get out there and explore it.
Now, allow me to step aside from central bank digital currencies (CBDCs) – and coffee, of which I’m also a big fan! – for a moment to answer your question.
For that, I want to talk about McDonald’s hamburgers – or the Big Mac Index.
It was developed by The Economist back in 1986 to show the different costs of a Big Mac in different countries. In economics wonk speak, that’s called “purchasing power parity.”
I remember it from my days living in London as a senior managing director at Bear Stearns. I ran the analytics group there, and we traveled to meet with central banks, pension funds, and banks around the world.
During one year in the mid-1990s, I traveled to 12 countries in Europe, eight in Asia, and a couple in the Middle East – and more cities than that. Talk about air miles!
I didn’t buy Big Macs in any of them (I’m a vegetarian). But, the index was a topic of conversation at the office for my team after various travels.
And you can still find it today. Take a look…
Today, a Big Mac in the U.S. costs $5.69. In U.S. dollar terms, it’s most expensive in Switzerland, where it costs $8.17. And it’s cheapest in Taiwan, where it costs $2.39.
That’s what the Big Mac Index chart above shows.
In other words, the price for a Big Mac in dollar terms is different around the world, even though it’s the same item.
That’s because of domestic economic differences. Like what your original currency of exchange was… And the cost of getting or producing that item in each country.
Now, in theory, all other things being equal… If the dollar is strong relative to other currencies, you can buy more Big Macs in another country for the same price than you can in the U.S.
But all other things aren’t always equal, as Switzerland shows. The U.S. dollar has strengthened relative to the Swiss franc, but Big Macs are still relatively expensive there.
That’s because depending on what you’re buying, there are other costs.
For example, there are transportation and supply chain costs for getting raw materials and commodities from one country to another.
Some countries are net exporters, and some are net importers of certain materials. Some are developed, and some are developing.
In short, all of these economic factors contribute to how much any currency can buy at home or abroad.
And all of this backdrop will apply to CBDCs, like it applies to non-digital currencies today.
That means that your cup of coffee will cost a different amount in other countries, just as it does today, once we convert to a CBDC-based currency world.
As we’ve written, most of the world is in different degrees of analyzing or reaching the ability to launch a digital currency in their nation.
And we discussed how these would eventually replace current “cash” or non-digital versions of their currencies. This process will likely take place over several years and will happen more quickly in some countries than others.
But overall, what this means is that your money in the form of a U.S.-based CBDC will have a roughly similar purchasing power relative to other countries’ CBDCs as it has now.
Notice I said “roughly.” That’s because there’s one more thing to consider in the transition to global CBDCs.
That is, some dollar-based countries may find themselves basing their CBDCs off the dollar, as they base their currencies now. And some may use this conversion to become more de-dollarized.
Are you saying competition from BRICS to anyone is bad? Americans have been enjoying exuberant lifestyles through the petrodollar. De-dollarization is a necessity regardless of whether its full impact reaches Americans 20 years or 50 years from now.
– Tshidi S.
Thanks for writing in, Tshidi!
You’re right to suggest that many countries, including BRICS, are unhappy with the dollar’s dominance. And that they see de-dollarization as a necessity.
Just consider the fact that many previous emerging market crises were tied to the strength of the U.S. dollar.
For example, the Asian Crisis in 1997. I was senior managing director at Bear Stearns in London at the time, so I witnessed the effect this had on global markets.
Thailand unpegged its currency, the baht, from the U.S. dollar. The baht went on to lose more than half of its value.
This set off a domino effect of devaluations that spread as far as Russia and Brazil.
That’s because as the dollar strengthens, developing countries must tighten their monetary policy to balance the related drop in the value of their currencies.
If they don’t, they risk increasing domestic inflation. And the cost of servicing their dollar-denominated debt would rise.
That’s what happened when the Thai government decoupled the country’s currency from the dollar.
More recently, countries like Egypt, Pakistan, and Ghana asked for bailouts by the International Monetary Fund (IMF).
This was due to financial stress caused by a stronger dollar compared to their own currency. Because they borrowed heavily in U.S. dollars, paying it back meant a squeeze on what they could spend domestically.
For them, moving away from the dollar is a matter of economic survival.
Countries like these have seen the financial turmoil that comes with a stronger dollar. A strong dollar makes their own currencies weaker.
Then, you have other governments losing trust in the U.S. on a financial and geopolitical level.
Political tools like sanctions and embargos were the first to create distrust. Then bank failures, high interest rates, and economic uncertainty made business with the U.S. a financial liability.
Countries like China and Russia have been unhappy with the dollar’s dominance for quite some time.
And it didn’t help that Western countries hit Russia with unprecedented sanctions following Russia’s war in Ukraine. That gave BRICS countries an even bigger push to try to find an alternative to the dollar.
As justified as the Western sanctions might be, it does show the rest of the world just how risky it can be to depend on the U.S. dollar.
The upshot is that countries want control over their finances. That’s especially true for big economies like China.
So, in that regard, I agree with you: from their perspective, finding a way to sidestep the dollar is a necessity.
That’s what a new BRICS currency would do. For one, it would reduce any threat by the U.S. to exclude BRICS nations from the dollar-based financial system.
The BRICS countries would also benefit from being able to pay for their energy imports with their own currency.
This is exactly why BRICS as a whole, and China specifically, have been trying to cozy up to the Saudis.
In August, the BRICS announced they were bringing Saudi Arabia, Iran, and the United Arab Emirates into their group. These are the world’s top oil producers.
By doing this, the group is solidifying its role in a crucial global trade sector: oil exports. This places BRICS in a unique position to challenge the U.S.
The move could siphon off a portion of the U.S. oil trade. That’s likely what you were referring to, Tshidi, when you mentioned “competition from BRICS.”
And, yes, when you consider that China has already begun using the yuan for most of its energy imports from Russia, it does sound like that.
Russia is also now using the Chinese yuan to settle 25% of its trade with the rest of the world.
Plus, India’s largest oil refinery, Indian Oil Corp, and two other refineries there began paying in yuan for some of their Russian oil imports.
Now, I’ve mentioned on many occasions that I don’t see the end of the petrodollar happening tomorrow.
More than 90% of all oil traded around the world is still priced in U.S. dollars. That’s not the type of thing that can change overnight. Whether it will take 50, 100, or more years, no one knows for sure.
As I’ve written before, it will be a death by a thousand cuts, not something that happens overnight. The shift is happening, though.
And that’s all for this week’s mailbag. Thanks again to everyone who wrote in!
I do my best to respond to as many of your questions and comments as I can each Friday.
If I didn’t get to your question this week, please write me at [email protected]. Just remember, I can’t give personal investment advice.
Happy investing… and have a fantastic weekend!
Regards,
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Nomi Prins
Editor, Inside Wall Street with Nomi Prins