The Future Geopolitical Order and Bitcoin: An Initial Assessment
Written by Matthew Pines
“The days move along with regularity, one day indistinguishable from the next, a long continuous chain. Then suddenly, there is a change.” — Travis Bickle (Taxi Driver, 1976)
On February 26, 2022, a mere three days after Russia launched its invasion of Ukraine — the European Commission, France, Germany, Italy, the United Kingdom, Canada and the United States released a “Joint Statement on Further Restrictive Economic Measures.” This statement (joined by Japan two days later) declared how the Group of Seven (G7) nations will “commit to imposing restrictive measures that will prevent the Russian Central Bank from deploying its international reserves.” This unprecedented sanction had the effect of freezing Russia’s ability to access about half of its $600 billion dollars of foreign reserves. And with a stroke of a pen, what Russia thought was its money one day, turned out not to be, overnight.
Amid the fast-moving events of that period and additional sanctions since applied, the strategic import of this particular action was somewhat obscured. However, history will likely note that move as marking a fundamental pivot in the evolution of the international economic system and the associated global order.
The lesson Russia learned in February was also learned by the Canadian truckers (and many others in recent history) and brings into sharp relief a question that hits at the core of the current monetary and political arrangement; what is money and who has the power to decide? Money is an expression of power. The power to decide what is money — and who can or cannot use it — is a unique and consequential power. How such power is wielded — whether in the hands of a state, across blocs of competing states or among a distributed consensus of individuals — will shape much of the future.
This essay outlines an abridged analytical framework for understanding the global system at distinct scales (micro, meso and macro) and presents a plausible (albeit notional) scenario of how geopolitical dynamics may precipitate a monetary shake-up in which Bitcoin becomes strategically important.
“Why should things be easy to understand?” — Thomas Pynchon, 1977
Any future-scenario analysis must be grounded on an understanding of the current global system. To do so, we must simplify and impose some crude conceptual schema that puts the key domains of interest into some relation to one another. Then we can import relevant empirical details from these domains to examine their historical (and potentially causal) relationship to one another. To the extent we have done this successfully, we can say “we understand how things work,” but only in an approximate and inherently limited way.
We must recognize that there are entire academic disciplines with mountains of literature devoted to understanding every element of the global system. It would be hubris of the highest order to suppose one could construct some synoptic perspective across all these domains. For the purposes of this initial assessment, I examine three broad domains for the global system: micro, meso, and macro (see table).
Since our core question relates to the future of the global monetary system, it is critical that we understand the tactical constraints, technical mechanisms and near-term dynamics of the current money system. The dominant constraint facing the policy officials responsible for this system is global debt levels, which have reached levels typically associated with the aftermath of world wars. At this point, the technical mechanisms available relate to the ability to manage institutional demand for sovereign debt securities and attempt to ensure that the market for such securities remains sufficiently liquid and stable against a backdrop of rising inflation.
As the G30 Working Group on Treasury Market Liquidity has noted, the smooth functioning of the U.S. debt market is absolutely imperative for the stability of the global financial system. As a result, the Federal Reserve has had to develop extensive facilities that increase the “moneyness” of U.S. Treasury Securities (USTs) by increasing their fungibility as a “cash equivalent” and shore up this $23+ trillion market. These efforts have come in halting response to periodic disruptions to the UST market after the global financial crisis. The first signs of disturbance appeared with the flash rally in 2014, then the repo spike in 2019 and the particularly concerning sell-off in March 2020, when the secondary market for USTs essentially froze. In addition, while written off as an “operational error,” the technical failure of the Fedwire system on February 25, 2021, left a lasting imprint in the debt market. The Fed also invoked its emergency authorities under Section 13(3) of the Federal Reserve Act to deploy an unprecedented series of lending and credit facilities in coordination with the Treasury Department.
The net effect of these changes have been to substantially broaden the number of counterparties (financial institutions) with access to the Fed’s balance sheet. These monetary facilities — specifically the Overnight Reverse Repo Facility (o/n-RRP) and the Standing Repo Facility (SRF) — serve to provide a floor and ceiling, respectively, to money market and dollar funding markets, with an effectively unlimited ceiling at the FOMC’s discretion to raise caps as needed. The Fed has also expanded its dollar liquidity and foreign-currency liquidity swap lines with foreign central banks to prevent obstruction in the key arteries in the global dollar system. While typically limited to countries with a close relationship to the U.S. (e.g., U.K., Canada, the EU, Japan and Switzerland), a crisis like COVID-19 saw these broadly expanded to many others.
However, not all major foreign central banks have access to these facilities, most notably China. To cover this gap in its ability to manage global dollar funding markets, the New York Fed executes repo and reverse repo transactions through its foreign and international monetary authorities (FIMA). While not publicly acknowledged, it’s understood that the dominant FIMA customer is China. This facility allows China to borrow dollars directly from the Fed without selling Treasury holdings. In a time of Treasury market stress driven by foreign selling of USTs like that seen in March 2020, the Fed will print new dollars and give those to China in exchange for UST collateral.
This thicket of technical facilities (repo facilities, swap lines, emergency credit lines, asset purchases, etc.) form the essential “plumbing” by which the current monetary authorities will seek to manage a global economic system facing high debt loads (especially public debt), low structural growth potential (from declining demography) and high inflation. The latter is exacerbated by an endogenous demand shock from stimulus policies in the West and an exogenous supply shock from the war in Ukraine. These shorter-run technical aspects of the monetary micro-domain will influence and constrain the operational factors and decisions over the medium term — the meso-domain to which we now turn our attention.
The operational constraints and decision points facing Western sovereigns at this level are multifarious. First, the Fed’s attempt to “normalize” interest rates and shrink its System Open Market Account (SOMA) via quantitative tightening will run into difficulty drawing down the $1.7 trillion in o/n-RRP for a UST bid, as leveraged relative value (RV) hedge funds hit dealer balance sheet capacity and as potential cash investors keep their holdings in money market funds to capture rising yields. These factors will constrain the private market’s ability to absorb UST issuance and thus its ability to help refinance the mountain of maturing securities in the next few years.
SRF and FIMA will not be helpful here (as these are merely repo facilities), so authorities may move to increase requirements for institutions to hold high-quality liquid assets (HQLA), namely USTs. This may take the form of unilateral Fed action or a coordinated update to Basel III, which is the current set of international regulations that mandate certain capital ratios of financial institutions be held in “safe and liquid” assets like USTs. In addition, it is likely that some form of central clearing of USTs will be introduced in the UST market, building on the recently instituted sponsored service by the Fixed Income Clearing Corporation. Collectively, these amount to attempts of increasingly corralling large pools of institutional capital into holding USTs and at the same time tightly controlling the use of leverage and derivatives in the UST market.
Essentially, this is the world’s largest sovereign debtor forcing its captive financial industry to own its increasingly unattractive debts and limit potentially “disruptive” trading activities. In short, the U.S. government will not, and cannot, allow a free market in USTs. This may sound obvious to Bitcoiners who point out that the Fed’s very existence as a monetary agent is proof that the market for money isn’t free. Point taken. But setting a target for the overnight federal funds rate — and even making large-scale asset purchases (i.e., quantitative easing) — is qualitatively different from effectively nationalizing the UST market and embarking on a form of “yield curve control” to monetize sovereign debt indefinitely. This is the Hotel California the U.S. is about to check into.
Secondly, the structure of global commodity markets has become highly financialized, leveraged and therefore fragile. After the Commodity Futures Modernization Act of 2000 passed, the amount of open interest in the commodities market increased from around 20% to 80-90%, representing an explosion in financial speculation as the primary driver of commodity pricing. The market has become increasingly concentrated with a handful of dominant commodity trading houses (e.g., Trafigura, Glencore, Vitol, Unipec, etc.) that all finance their highly leveraged operations through central clearing counterparties (CCPs). The purpose of these CCPs is to mutualize credit risk among member institutions, but the Value-at-Risk models these CCPs use to set the “initial margin” requirements are based on short (5-10 year) look-back periods.
Needless to say, these models were not trained for a scenario where the world’s largest commodity exporter (Russia) is hit by coordinated G7 sanctions and an insurance blockade on shipping, nor one where the world’s largest goods producer (China) is shutting down its factories and ports in waves of COVID-19 lockdowns. The result has been, and will continue to be, wild swings in commodities markets that threaten to bankrupt commodity trading houses (e.g., Trafigura), question the solvency of CCPs and force potential bailouts. Moreover, these CCPs have unlimited recourse to the balance sheets of their members (namely, global systemically important banks, G-SIBs) to keep themselves solvent in a liquidity event. Nationalizations (or quasi-nationalizations) aren’t off the table, especially as China’s state-owned trading house (Unipec) is poised to take market share in the geostrategically critical (and deeply murky) commodity markets.
It is important to note that it is these very same G-SIB balance sheets that are supposed to absorb securities rolling off of central bank balance sheets (via quantitative tightening) and to absorb increasing U.S. Treasury issuance. These G-SIB balance sheets, while nominally attached to private banks, function in the post Basel-III environment as public utilities; that is, they exist as effective extensions of the central bank and are captive agents to facilitate the financing of the sovereigns by whose remit and legal mandate they exist in the first place. Thus, there could come a point where the increasing volatility and financial stress from geopolitically disruptive commodity markets encumbers the ability of banks to support off-balance sheet financing of their fiscal authorities.
This leaves RV hedge funds and the Bank of Japan as the sole material remaining significant external bids for the U.S. Treasury market. RV hedge funds buy Treasuries, short the futures and fund the pair in the repo market; a strategy that blew up in September 2019 and March 2020 and was only saved by floods of central bank liquidity. RV funds are a form of “fast funding,” which flee at the first sign of trouble, and will find it hard to harvest bond bases during quantitative tightening. That is, they are not the ideal source upon which the world’s greatest superpower should depend for financing.
The Bank of Japan, on the other hand, has been among the most reliable buyers of U.S. debt. Facing deflation at home and persistently low rates of return, the Japanese saver has gorged on USTs, eager for any meager yield spread. As a result, Japan has the largest net international investment position (NIIP) in the world. The BoJ, as the proverbial laboratory of central bank experimentation, is a guide to where other Western monetary authorities will head as they follow Japan’s demographic trajectory. Led by the charismatic Haruhiko Kuroda, the BoJ has implemented the most extreme monetary policy on the planet — starting with quantitative and qualitative monetary easing (QQE) in 2013, then adding negative interest rate policy (NIRP) in early 2016 and then QQE with yield curve control in June 2016, which is a program of unlimited Japanese Government Bond (JGB) buying to keep the yield on 10-year JGBs fixed at 25 bps.
This policy has been mostly unremarkable in a low-inflation environment. However, the inflationary effects from post-COVID liquidity injections and the Ukraine war commodity shock is putting that policy to an unprecedented test, forcing the BoJ to execute many unscheduled open-market operations to defend the peg. The pressure on the JGB market has been released in the form of a weakening yen, especially against the USD. Why does this matter? Well, this represents a potential fracture point in the key funding channel by which Japanese money flows into the UST market. In fact, the correlation between the JGB10Y, the USDJPY and the US10Y is very high. That is, the strength and durability of the Japanese bid for USTs may now be weakening. Given their role as one of the few remaining sources of external demand for U.S. debt, any instability or change in BoJ policy could have massive ramifications for the UST market, and by extension, the stability of the global dollar system which depends on that market to remain well-ordered.
Now, monetary policy decisions (despite the lip-service paid to “central bank independence”) are fundamentally political, and in the current environment, geopolitical. Thus, any analysis of the constraints facing BoJ decision-makers must take account of the long history of the U.S.-Japan diplomatic relationship (cf their membership in the Quadrilateral Security Dialogue) given their mutual interest in maintaining the G7-dominated economic system, containing China and promoting democratic values. Given the particular threat of China and the rising defense ties with the US, one should expect Japan to be accommodating, if not subservient, to the monetary stability needs of the US, even at the cost of their currency and domestic economy. Japan is particularly vulnerable to higher cost energy inputs as liquid natural gas (LNG) imports continue to be directed to Europe to blunt the force of Putin’s energy blackmail.
In short, Japan is one of the few remaining jenga blocks holding up the rickety UST system upon which the U.S. economic and geopolitical hegemony depends.
Zooming out further, the third meso-scale constraint facing sovereigns in the current geopolitical order relates the commodity and food shocks already mentioned. The knock-on effects in countries around the world from rising food and energy prices (or even shortages) will lead to domestic political instability. Rich countries will increase subsidies to placate local populations, but this will exacerbate global food and energy stress in emerging markets, already facing a debt crisis from a rising dollar. This is a recipe for civil disorder and war in the developing world, at the same time that Western nations who would normally be poised to respond with “peacekeeping” missions will find themselves preoccupied with their own domestic affairs and larger international crises to manage.
While the acute shock from war will force substitution on the margin and will mellow with time (albeit at a structurally higher level), the lesson learned by nations and firms around the world will persist. Coming on the heels of the supply chain disruptions from COVID-19, this lesson is twofold: 1) national leaders now know that critical commodity inputs (e.g., from Russia) and finished goods supply chains (e.g., from China) dominated by hostile or politically antagonistic nations can and will be weaponized, and 2) Western multinationals (and their C-suites) that have only known the deflationary cost-savings from globalization (i.e., offshoring for labor arbitrage) will confront a great reversion of reshoring, which will be strongly encouraged, if not required, by overt sovereign industrial policies. The value of domestic reserves (of hard resources, not mere foreign exchange), of domestic production capacity and of reliable and “friendly” supply chains now have geopolitical premiums attached.
In addition to this “reshoring” and “restocking” trend driven by rising geopolitical risk, states will seek to “rearm.” This is happening in Europe in immediate response to Russia’s invasion, with Germany reversing decades of defense policy to embark on a program of massive military build-up, NATO discussing expanding permanent bases and even France raising the possibility of a standing European army. This trend will ricochet, with every state reconsidering their strategic position, their reliance on critical resources (i.e., farmland, ports, gas fields, etc.) and eyeing any neighbors that they may suspect harbor revanchist ambitions in their territory. The net result will be larger portions of GDP dedicated to defense spending, a particularly unproductive form of investment that will not help already indebted nations grow themselves out of ever tightening debt traps.
Finally, despite having certain aspects of the green dream shattered by the cold reality of fossil fuel dependence (and thus dependence on OPEC regimes), most Western nations will not give up on their Paris Climate Accord commitments. In fact, many are likely to see the crises of 2022 as a precipitating event to accelerate investment in “rebuilding” domestic energy systems. This will require rapidly expanding less carbon-intensive power generation, broad-scale electrification of the economy and radical transformation of how grids are structured and managed.
The combination of this “reshoring,” “restocking,” “rearming” and “rebuilding” will be a new structurally inflationary force that is likely to overwhelm the latent deflationary trend from demographics and technology. Further, this is a trend that is immune to the business cycle as the outlays are strategically necessary to support national security imperatives. These meso-scale forces will interact constructively (in the fluid, dynamic sense) with the micro-scale variables of UST market weakness, commodity-finance fragility and associated macroeconomic fragility to place the current geopolitical order at high risk of fracture.
Sociopolitical changes and technology shifts tend to be the dominant macro-structural influences over time. However, given the current geopolitical crisis, the imminent contest for global power may unfold as the deciding factor shaping the evolution of the global system and its associated monetary regime. The question of the role of Bitcoin in this current conflict and potential future (dis?)-order can then be analyzed.
It is important to recognize that global geography imposes a first-order constraint on the geopolitical order. The size of the Eurasian landmass, along with its limited oceanic access and endogenous natural resources, sets the frame for its power potential. The British geographer Harald Mackinder developed a broad schema for analysis of world history through the lens of his “Heartland Theory” of Eurasia, captured in a simple triplet;
- Who rules Eastern Europe commands the Heartland (i.e., the Eurasian core).
- Who rules the Heartland commands the World Island (i.e., Asia and Europe).
- Who rules the World Island commands the world.
This framework lends itself to viewing geopolitical conflict as a nexus naturally arising between land and sea powers, which in modern history presented itself in various iterations of contests between (to borrow the framing used in Orwell’s “1984”) Eurasia, Oceania and Eastasia. The 20th century was the first where technology enabled forms of violent state competition, as well as peaceful globalization, across the full scale of the Earth. Moreover, the same technology made possible the organization of massive state systems to project power and maintain integrated, centralized control over large, diverse populations and cultures.
The Soviet Union emerged from that era of global conflict as the Eurasion model of such a technologically enabled state structure, inspired by a state-focused political and economic ideology and inherently constrained and empowered by its responsibility over the Eurasian Heartland. The United States arose as the dynamic pole to the USSR, similarly technology-enabled but inspired by a radically different political and economic model inherited from its maritime and commercial forebears (Great Britain) to take the helm as the great Oceanic power.
The Cold War can thus be seen as a modern incarnation of this geographically contingent dynamic, pitting the greatest land power of the era against the greatest sea power. The U.S. viewed this competition as an existential contest for control over the world order, which in the first decades after World War II was not a settled question. Starting in 1964, the Brezhnev era saw a massive military buildup (crushing the Prague Spring in 1968) and relatively high economic growth (5-8% annual GDP growth), but fractures after Mao launched the Cultural Revolution gave the U.S. an opening to split the communist power bloc dominating Eurasia. President Nixon’s trip to China in 1972 successfully launched a multi-decade strategic partnership between the U.S. and China to mutually counter and contain the Soviet Union.
In the course of these geopolitical developments, the global monetary system also underwent dramatic shifts. The Bretton Woods agreement forged in 1944, which fixed a gold exchange rate for the USD against which other countries pegged their currencies, very quickly proved to be unworkable. An offshore eurodollar system developed to help the Soviets store and recycle dollars in European banks in the 1950s, and the rising price of gold challenged the USD peg, leading to the creation of the London Gold Pool in 1961. Gold continued to be drained from the Pool as the U.S. increased deficits to finance the Vietnam war. France publicly withdrew, and the Pool quickly collapsed. Emergency efforts to keep the system afloat led to a two-tiered gold price that was fundamentally unstable as reserves continued to drain from the Treasury. Finally, in 1971 Nixon “temporarily” suspended convertibility and the global monetary system shifted entirely to a free-floating exchange rate system, which we live with to this day.
Now, as dramatic as these official moves were, the private market for money never ceased to evolve. U.S. authorities, mostly in the dark about the workings of this “offshore eurodollar” system, awoke to the strategic possibilities after the Nixon shock and engineered a new basis of support for the dollar. The solution they caught onto involved scaling up a mechanism that has already been built over years for commodity exporters (namely the oil producers in the Middle East) to recycle their dollar surpluses into U.S. Treasury Securities — an asset considered to be the most safe and liquid instrument for sovereign savings and foreign exchange reserves.
Nixon dispatched his Treasury Secretary to manage shuttle diplomacy with Saudi Arabia in 1973 that resulted in a grand bargain: the Kingdom would agree to solely denominate its oil sales in dollars and recycle those revenues into the U.S. sovereign bond market and arms deals, in exchange for military protection for its regime. This inaugurated what is colloquially known as the “petrodollar,” but it should properly be termed the “petrotreasury,” as the key feature of this system is not really the unit of account for oil pricing, but the reserve asset into which oil sales then had to flow. The U.S. proceeded to expand and replicate this system in other nations throughout the century, in particular with Germany and Japan (cf the Plaza Accords) — two other rising industrial powers with large export surpluses that needed to be redirected into U.S. capital markets.
The success of this system helped the U.S. outspend the Soviets via an arms race until they collapsed in 1991. The U.S. seized on the opportunity to cement total global domination and capture strategic influence over the Eurasian Heartland. It sent the “Harvard Boys” into Moscow to implement shock therapy, a crash program of market liberalization (at least nominally) intended to remake Russia into a modern, Western-oriented capitalist state. Instead, the chaos unleashed led to a breakdown of civil order, hyperinflation and the rise of mafia organizations infused with former (and still serving) intelligence officers. The takeover of the state by these siloviki (with President Putin at the helm) instead set Russia back on a course of authoritarianism, the consequences of which we witness today.
The U.S. also attempted to apply a similar strategic approach to China (the second pole of the Eurasian power axis) during that “hyperpower” moment of global hegemony. While Russia was weak, it turned attention to China, bringing them into the World Trade Organization in 2001. This marked a pivot point in globalization as Western firms tripped over each other to relocate factories to China. It also turbo-charged the dollar-Treasury recycling system as the U.S. ran persistent trade deficits to gorge on cheap goods and electronics.
China agreed to play along for the first phase of this new relationship, piling their USD surpluses back into USTs and becoming the U.S. government’s largest creditor, thereby helping to indirectly finance our Afghanistan and Iraq wars, and giving political cover for continued deficit spending by both parties of tax cuts, increasing social programs and the one-way ratchet of defense outlays. They even balked at a suggestion by the Russians in 2008 to coordinate a firesale of U.S. debt securities at the height of the financial crisis.
China fundamentally pivoted its approach to the dollar-system after the taper tantrum in 2013 revealed that the Fed would never realistically be able to exit quantitative easing. That same year, President Xi announced the Belt and Road Initiative (BRI). BRI is an economic expression of Mackinder’s thesis, with a monetary twist. Instead of recycling net surpluses into USTs, China instead decided to re-lend those dollars to countries throughout the Eurasian Heartland and periphery, even deeply into Africa and South America to secure financial interests in hard assets, natural resources and spread political influence — all on the back of “King Dollar.”
At the same time, China realized the strategic value of acquiring more valuable Western assets and proceeded to pour its dollar surpluses into U.S. and European equity and real estate markets. As episodes like the NBA, Marriott and other corporate controversies attest, these capital flows have not come without political strings attached. More perniciously, Chinese investment in firms at the core of the national defense industrial base have threatened the protection of intellectual property and supported the Chinese acquisition of technology to accelerate their defense modernization.
At this point, it is clear that maintaining the dollar’s status as the global reserve currency — and more importantly, the UST’s status as the global reserve asset — has not accrued to the U.S. the “exorbitant privilege” as commonly understood. Rather, we now find ourselves forced to run increasingly large and persistent trade deficits that undermine our domestic manufacturing capacity, leaving us acutely vulnerable to supply chains anchored in China.
Further, the U.S. is forced to recycle and reabsorb global savings which pushes up asset prices, to the benefit of a select Wall Street elite. This drives increasing wealth inequality and associated social and political polarization, all while giving up ownership of scarce, valuable assets in exchange for cheap, perishable consumer goods.
If the geopolitical imperative of the U.S. in the post-war era was to ensure no single power bloc would emerge to dominate Eurasia, it’s hard not to look at the “no limits strategic partnership” announced by Xi and Putin in February 2022 as anything other than a catastrophe. Russia’s war in Ukraine (and China’s tacit assent) can thus be seen as the first overt move in a larger contest to challenge the Western “rules-based” international order.
Given that monetary regimes are downstream of the prevailing geopolitical order, the question of the future of the global monetary system (and the role of Bitcoin in such a future system) thus resolves to the question of how this present geopolitical crisis may unfold.
At present time, one can imagine a wide range of scenarios. In a time of war, many things can go wrong. Leaders can miscalculate. Irrationality, whim or strategic indecision have steered the course of history towards disaster many times in the past. In other words, shit happens. No one has a crystal ball and critical events may play out more rapidly than anticipated. At the same time, it may take much longer than one would think for these cascading strategic implications to unfold.
With those caveats, let us close this essay with a sketch of a plausible scenario, outlining how the key dynamics across the domains described above may play out, in particular with respect to the changing geopolitical order and associated monetary regime. In such a scenario we can see how Bitcoin may become particularly relevant and we can assess the implications for strategic decision-makers as they confront a rapidly changing global system.
“What goes on inside is just too fast and huge and all interconnected for words to do more than barely sketch the outlines of at most one tiny little part of it at any given instant.” — David Foster Wallace (2004)
Every scenario, in the argot of Pentagon wargaming, starts with Assumptions and Artificialities and then presents a Ground Truth. The former fix the parameters of the notional future and the latter unpack the salient context and detail to examine the issue under analysis.
Our Assumptions and Artificialities, defined over the time horizon of interest (2022-2030):
- Putin does not use nuclear weapons or mass use of chemical weapons (beyond irritants) in Ukraine.
- Putin does not get deposed or assassinated (though he may die of suspected disease, we assume his replacement is another siloviki and won’t fundamentally liberalize Russian society or change foreign policy).
- China does not launch an unprovoked full-scale invasion of Taiwan (this doesn’t preclude actions against offshore islands like Dongyin, Pratas, or other provocative moves in the South China Sea).
- The Chinese Communist Party remains in power (most likely with Xi at the helm, but this is not assumed).
- No new breakthrough technologies or scientific discoveries are made that change the fundamental productivity or energy capacity of society, or destabilize human social order (e.g., UAP disclosure).
- No existing nuclear powers collapse or engage in nuclear hostilities (e.g., Pakistan or North Korea) and new nuclear powers (i.e., Saudi Arabia and Iran) do not engage in nuclear conflict.
- No debilitating attacks on global internet infrastructure are launched (this includes cyberattacks, cable cuts to undersea fiber links, destructive anti-satellite attacks, etc.).
- No new COVID variant or other pandemic brings civilization back into a 2020 state of lockdown or worse.
- The global food-fertilizer system does not collapse and lead to multi-continent famine killing more than 5-10% of world population, destabilizing social order throughout the world, including the west.
- The United States (or Europe for that matter) does not experience a political crisis that leads to a breakdown in constitutional order, a fundamental change in the federal structure of government, or a secessionist breakaway bloc of states.
There are probably others one could list, but these seem to be among the most salient and plausible (if individually unlikely) risks that, if they were to occur, would so dramatically alter the basic order of the global system as to render analysis post-facto impossible (or at least beyond the scope of this essay). The intent in listing these is to bracket off for the sake of discussion a range of outlier tail risk scenarios to allow instead a focus on a possible course of global system evolution that, while disruptive, doesn’t involve the systemic collapse of critical infrastructure, use of nuclear weapons, or breakdown of social order. That’s not to say those BAD things can’t happen (or that I rule them out tout court) – just that we need to keep things somewhat bounded if we hope to get any handle on how the crazy mess we already face may evolve in the near future.
“Chaos is a ladder.” — Littlefinger (2013)
A scenario ground truth, in a general sense, presents the empirical context for analyzing a future operating environment, in this case the near future geopolitical order and associated monetary regime. Developing a realistic ground truth involves presenting a (inevitably prescribed and limited) fact pattern that plausibly extends the status quo situation into the future. That is, this isn’t necessarily the “way things will happen”, nor is the end-result the sole possible outcome given the starting conditions. It is merely a plausible course of progression given recent events.
Human society and our economic and geopolitical relations constitute an irreducibly complex and chaotic system. There is no single inevitable equilibrium or stable state one should naturally expect it to fall into. Rather, the potential collapse of the UST-USD eurodollar recycling system as the monetary regime underpinning global order isn’t necessarily going to lead to the world economy re-settling into a new, merely different monetary regime. Rather, what you get when order (especially long-dominant, institutionally anchored order) collapses is disorder. Out of this disorder may emerge a new order, but such a phase transition to a new stable state (potentially anchored on a Bitcoin standard) is not likely to be a quick, easy, nor painless process.
The Ground Truth presented here attempts to outline a sketch of what such a monetary disorder might look like. In particular, we seek to assess how the structure of motivation and constraint facing key agents in the global system (namely individuals, corporations, institutional capital pools, state leaders, national FX reserve managers, etc.) may change. Finally we examine how this changing structure of motivation and constraint may cause a reappraisal of the unique monetary and technological properties of Bitcoin.
Let’s begin how we started this essay, with the blocking sanctions imposed on the Russian Central Bank. A few key facts about those decisions are important to note:
- They were decided in late-night, emergency sessions between G7 leaders in the days immediately after Russia’s invasion, and the U.S. manifestly did not extensively plan prior to deploying such an action. That is, this strategically important action was made in extremis and without the full interagency review that the National Security Council typically engages in to vet important decisions and examine cascading consequences.
- The initial round of sanctions (while severe) notably carved out exemptions for Russian commodity and energy trade. In that period, the Treasury Department went out of its way to tell energy and commodity firms about this exemption, even presenting helpful graphics guiding one through the thicket of compliant banking correspondent relationships to maintain trade with Russia. However, decision-makers did not anticipate the wave of self-sanctioning as the moral position of continuing a commercial relationship with Russia became politically toxic. In very short order, most energy majors and hundreds of other western firms announced the wind-down and pull-out of Russian business operations. As a result, Russian commodity exports (which normally trade at par in the global market) were assigned a significant discount as the basic structure of trade insurance and finance became increasingly difficult to secure.
- Russia did not hold any U.S. Treasury Securities at the time (having offloaded its remaining USTs in 2018), and had no direct onshore dollar exposure or balances with the Fed. Rather, Russia held its dollar and euro balances with the Bundesbank and the Bank of Japan. It was these fiat liabilities that were frozen by coordinated G7 sanctions. Thus, the implications redound not only to the dollar, but to the entire edifice of G7-fiat currencies (“inside money”) and associated sovereign debt markets. In fact, Russia quickly retaliated by demanding European gas buyers in “unfriendly” countries pay in rubles (although the precise mechanism was a little more indirect and designed to ensure further FX reserves accumulated inside the Russian banking system), a move which helped restore the currency to pre-war value.
One immediate lesson many drew from this event was a reconsideration of the risk of fiat liabilities in an environment where trust is lacking (including the trust not to violate territorial integrity and Westphalian sovereignty). This event reinforced the nature of fiat money as a system of centrally maintained ledger entries denominating a unit of account corresponding to a sovereign authority's sphere of power. As such, the use of such a liability as a medium of exchange (or store of value) is contingent on the political assent of that sovereign authority. Such assent may be revoked for morally justified reasons, but it should be expected that revoking fiat-system access from one of the world’s largest commodity exports will come with major consequences. The fact that this same state is a nuclear Eurasian power led by an aging and febrile autocrat in a “no-limits strategic partnership” with China raises the geopolitical stakes considerably.
The status of USD as the global reserve currency and of UST as the global reserve asset isn’t just an economic matter. It’s a matter of geopolitical alignment, which ultimately rests on the balance of power in the global system. Degradation in trust or confidence in G7 inside money is a necessary but not sufficient condition for a regime shift. History teaches us that such monetary shifts are almost always precipitated by larger geopolitical fractures, which typically manifest as war. Exceptions such as the shift from Pound Sterling to the USD in the 1920s can be attributed to the extremely close cultural and commercial relations between the two countries and Britain's economic dependency on and indebtedness to the United States.
In fact, such monetary shifts typically see rising (nominally revanchist) powers emerge as dominant creditors to the relatively declining (nominally status quo) powers. The U.S. was the leading creditor to an indebted war-weary Europe in the early 20th Century and leveraged this position (as well as its dominance over industrial production and natural resources) to rewrite the rules of the international order in its favor. Now China is the dominant global creditor and industrial power, and it is challenging (in partnership with aligned autocrats around the world) the status quo international system. It took victory in World War II for the United States to cement its hegemonic status. With equivalent debt loads coming out of the “War on COVID” the west now faces the prospect of another European war and tensions rising in flashpoints the world over.
As our adversaries seek to restructure the pattern of international trade, monetary account, and geopolitical relations to preference their interests, what will be the response of the U.S. and its global allies? China and Russia together have cemented their hold on the Eurasian Heartland and are engaged in both violent contest (in Ukraine) and strategic influence campaigns (e.g., information operations/active measures in the west, BRI investments, co-option of western elites/institutions) to overturn the status quo global order. How will we respond when our principal adversaries (who between them control the marginal supply of oil, food, critical commodities, and finished consumer goods) use violence and coercion to pull the Eurasian periphery (OPEC, India, East Africa, etc.) into their sphere of influence?
While our adversaries accumulate gold and stockpile commodities, the west accumulates increasing sovereign debts and sees fragile supply chains manipulated at the whim of their competitors. If these nations try to precipitate a crisis in the UST-USD recycling system (and the associated global trade system) to bring the world back to some sort of gold-peg or commodity-basket reserve system, what is our practical counter? Especially when this emerging revanchist axis of authoritarians is not only endowed with natural resources, but is building up their own capital markets, semiconductor fabrication, internet fiber links and satellite systems, global media distribution channels, payment systems and digital currencies, trading houses, mercenary firms, hypersonic (and other advanced) missiles, autonomous unmanned weapons platforms, artificial intelligence, upgraded nuclear weapons, and other instruments of modern power projection. What then?
In lieu of narrative excursus, I present below some of the potential cascading consequences that may unfold from this crisis moment:
- The allure of not just the dollar, but G7 “inside money” (as forms of money claims that are the liabilities of a central bank, or a private bank, or a government) will become incrementally diminished for certain countries. In particular, commodity and energy exporting nations (i.e., OPEC+) are likely to be especially likely to diversify away to 1) alternative inside monies to denominate sales and maintain liquid foreign exchange and 2) outside money to hold their assets in stores of value with less counterparty risk.
- This will take time and will start only on the margin (with things like the Saudi announcement of yuan-denominated oil sales). But it will create two problems for the USD-UST system that may feed on themselves and trigger a larger crisis.
- Flow problem in petrodollar-UST recycling: When J.P. Morgan lends to Glencore to finance a commodity deal, it creates USD ex nihil as a USD deposit. If the deal is with Saudi Arabia, Glencore uses that USD deposit to pay Saudi Aramco, who then remits most of the profit to the Saudi Monetary Authority (SMA). Ever since the 1973 Jeddah deal, the SMA recycles those USDs and buys USTs at auction (which purchases were kept secret in a special off-books account at the Treasury for many decades). Thus any marginal deal with, say Unipec, to sell oil denominated in yuan means that that marginal USD never gets created, and therefore doesn’t exist to support UST demand at a future auction. Instead, the SMA accumulates yuan reserves and looks to Chinese debt and asset markets to recycle its marginal surpluses. Again, this will not be an overnight change, but a gradual progression that sees marginal decline in USD surpluses and a marginal rise in CNY surpluses.
- Stock problem as existing FX reserves are diversified: Exporting nations (e.g., OPEC+) with large existing UST and eurodollar foreign exchange holdings may decide to diversify on the margin away from those reserves to recycle excess surpluses into a different basket of non-G7 inside money and outside money (e.g., gold, commodity stockpiles, and eventually Bitcoin). This may result in marginal selling pressure in those sovereign debt markets (hurting UST), even as USD remains strong due to reshoring capital inflows, high USD debt serving needs in emerging markets, and weakness in other G7 currencies (namely, the yen and the euro). Such a development would be confusing on the surface (strong USD, weak UST?), but can easily be explained by exporters shifting away from holding their accumulated savings/surpluses in USTs but other emerging markets still needing USDs to service rising debt loads and rising prices in a more unstable and inflationary environment.
- China, in particular, has a strategic imperative to secure reliable commodity and energy sources to sustain their large population and heavy industry. However, they are constrained by a lack of domestic resources and an unfavorable geographic position that leaves their sea-lanes past the First Island Chain and through the Strait of Malacca vulnerable to adversary disruption. Thus a key feature of BRI is the development of extensive overland trade routes and pipelines throughout Eurasia while also securing access to deep water ports (e.g., Gwadar) and other maritime infrastructure throughout the Indian Ocean. However, the Chinese don't yet have a blue water navy that would realistically be able to protect these sea lanes (though they have embarked on a massive program of shipbuilding and defense infrastructure throughout the South China Sea to “salami slice” incremental control over contested islands). In this regard, China will need to leverage India’s history of “strategic autonomy” (and historically close Russian relations, especially on weapons purchases) to marginally align the subcontinent in its direction, and mitigate the potential for the QUAD to evolve into a military alliance geared towards “containing” China.
- One can see developing the contours of a loosely pro-China contingent forming around the Eurasian periphery: as pro-China Pakistan now dominates Afghanistan in the wake of the U.S. pull-out (and China weighs occupying the Bagram Base we left behind); as Iran seales a $400 billion 25-year strategic energy deal with China (along with other military and intelligence support); as Iraq becomes the single largest recipient of BRI investment in 2021; as the Gulf Cooperation Council (GCC) countries strengthen ties with China; and as “Erdogan turns Turkey into a Chinese client state”. Looking at a map, one sees a continuous chain of states spanning the Arabian to the Black Sea in increasing alignment with China. The only hitch in China’s strategy here is Russia failing to live up to their end of the “strategic partnership” as they (apparently) falter in Ukraine. Still, from China’s perspective, a weakened Russia more beholden to China for military, economic, and diplomatic support is a net win, especially as the resulting disruptions to commodity flows exacerbate western inflation and debt problems while China can scoop up key inputs at a discount. For example, while Trafigura and Glencore suffer public “liquidity” issues and call for bailouts, China’s state-owned Unipec is quietly securing cheap supplies to add to China’s strategic stockpiles.
- From this vantage point of growing geostrategic strength, one can imagine certain states (especially OPEC+) moving first towards a proto-petroyuan system. In such a system, these commodity exporters would sell to a hungry China and recycle yuan surpluses in Chinese banks, which (in a mirror of the USD-UST system) would allow the Chinese Ministry of Finance to issue bonds to soak up these excess deposits. Now, this would have major limits in the near term as China does not run an open capital account (although it does allow limited CNY convertibility through the gold exchange in Shanghai).
- And yet, put yourself in the position of an OPEC+ or other emerging market exporter (especially one with a weak human rights record or autocratic governance system): you see a U.S. capital account that is open to you right now, but that you may now plausibly worry could suddenly close to you if you get crosswise with a future political administration. On the other hand, you see a mostly closed Chinese capital account (and associated questionable sovereign currency and corporate accounting manipulation), but one that you may reasonably wager will marginally become more open (especially to fellow commodity-rich autocrats such as yourself).
- What do you do? I think you hedge your bets and spread your political and currency risk around. As a result, USTs marginally lose and CGBs marginally win. If you add net selling pressure from the Chinese UST holding (possible sterilized through FIMA, or not…), and if you see the formerly reliable bid from Japan fade away, the west will be forced to incrementally dial-up financial repression, increase forced buying by domestic institutions, and engage in forms of quantitative easing and yield curve control that will be increasingly difficult to disguise without precipitating an all-out inflation or debt crisis in the developed world.
- When you add an aging and unhealthy western population with embedded social obligations (alongside the rising defense and green infrastructure financing needs) the credit demand from the state will inexorably grow. Critically, this demand (because it’s attached to a digital printing press) is not as rate sensitive as the private sector. That is, G7 countries will sacrifice their currencies (and in the process those of many other dollarized nations) in order to rapidly pivot to engage in the concurrent fight against the East and climate change. NetZero objectives will be expensive and require more sovereign debt finance. But they also need commodities to build solar panels, wind farms, power nuclear plants, all while importing fossil fuels to bridge the renewable transition. The Fed will not be able to make real positive rates and governments will print (“stimmies”/subsidies/tax relief) to shield consumers from commodity shocks as best they can. The west will need to construct politically palatable justifications to enforce the resulting pain on bondholders and domestic savers, and hope that resulting currency wars don’t trigger destabilizing responses.
- However, if critical commodity inputs and energy sources become strategically scarce, the potential for conflict rises, across all domains, including cyberwar, trade war, currency war, gray-zone hybrid war, deniable sabotage, etc. This will mean a dramatic rise in proxy wars and the application of unconventional, “asymmetric” warfare strategies to deny, degrade, and disrupt adversary plans. Domestically, this will also coincide with a growing impulse towards price controls, wealth taxes, class war, and increasing political instability. Democratic systems will come under extreme strain and some may buckle under the pressure (a good portion of which may be actively encouraged by “deniable” adversary political influence operations or cyber-enabled sabotage of western elections).
- Now, while China may marginally benefit from these trends, many nations are not likely to trust China anymore than they do the U.S. now. More likely will be a general degradation in trust in fiat reserves and the reliability of political commitments to property rights and rule of law to structure international economic relations. Fiat claims, for the near-term, will still be necessary to denominate exchange and settle bilateral trade among more segregated blocs of mutual trade in a deglobalizing world, so nations will still need to hold a certain amount of “inside money” for their liquidity needs.
- However, many nations will likely shift the savings portion of their national reserves towards harder assets. Commodity exporters in particular will seek to accumulate such “outside money” rather than fiat that is basically guaranteed to devalue against their scarce resources. It makes no sense to give away your national endowment for fiat, especially as the world faces peak cheap oil and the west is committed to move away from fossil fuels. When China is your best and growing customer, and the west turning its nose away in contempt at your key export, it should be no surprise how those nations choose to realign themselves. As a result, these decisions will be subject to increasingly bifurcating forces as the dividing poles between East (China) and West (US) put strong pressure on weaker powers in their sphere of influence to commit to a “side” and allocate their surpluses accordingly. To the extent that nations still rely on and trust in the protection offered by the U.S.-led military and nuclear umbrella, they may accept the implicit derogation of national economic sovereignty by remaining tied to the UST-system in exchange. China (using Russian mercenaries and other gray zone/hybrid forces as extensions of its military power projection) may do the same to their sphere of influence. After all, this is how all imperial tribute systems have functioned in the past (“Render under Caesar…”).
- If this dynamic plays out, one can imagine the People’s Bank of China emerging as the equivalent to the commodity system as the Federal Reserve is to the dollar system. Just as the U.S. maintains dominant control over the supply and access to dollars, China could assume dominant control over the supply and access to critical supplies. Now, this is an imperfect analogy as the latter structure of control requires a vastly larger infrastructure (e.g, shipping, ports, trade finance) and military capabilities (e.g., a blue water PLAN) that China does not currently possess (though is intent on building quickly). In such an emerging system, the China would leverage its friendly relations with the largest commodity and energy producers, it’s strong BRI web (greased by 5G and DC/EP installs), growing shipbuilding capacity, and large commodity and food stockpiles to marginally contest the U.S. position in the Pacific and establish its own peer-level sphere of influence.
- As we mentioned, while China will marginally strengthen as a result of this dynamic, it will struggle to build up (at least anytime soon) the deep reservoir of international trust that sustained confidence in the UST-USD system. That is, while a proto-petroyuan CGB recycling mechanism may form, it will likely be very small and weak, especially as China continues to struggle to build up endogenous demand in its domestic economy. Until China can escape the middle-income trap, overcome COVID, and develop a strong internal consumer-driven economic engine, it will need to continue to run structural surpluses and will struggle to absorb large inflows of external surpluses.
- The question remains: where do global surpluses go when fiat reserves lose their luster as a store of value and China is still not prepared to open its capital account. The answer in recent history has been a mix of “safe and liquid” western equities and desirable real estate/farmland. There’s a reason firms from China and Japan and GCC nations are some of the largest owners of U.S. listed firms and why the City of London has been known as “Londongrad”. In an era of globalization and the free flow of capital, the west welcomed this dynamic. Now, both sides are questioning the logic of this deal: western defense and intelligence agencies have long bemoaned the national security consequences of inviting so much money and influence from our foreign adversaries. They would welcome that particular tap being turned down, if not off. Similarly, there is now little love lost between the U.S. and China and Saudi Arabia (let alone Russia). Those nations now see how their ownership of these massive overseas assets is merely one court-order or OFAC action away from going poof. Further, with the western “green” energy transition, why would commodity exporters agree to finance their replacement industries by continuing to recycle their USD surpluses into USTs?
- Gold is the most obvious beneficiary (in the short-term) of this repositioning. It is clear that Russia and China (as well as Turkey and India) have been steadily adding to their national gold reserves. Under extreme sanctions now, Russia may attempt to leverage its gold reserves to stabilize its currency and potentially even enforce a form of oil-gold-ruble peg. Such an attempt at remonetizing gold will be strongly resisted by the west and may potentially interrupt already weak commodity and trade flows. As such, China will be hesitant to green light any extremely disruptive monetary move by Russia until it feels it is sufficiently insulated (which is not presently). It is more likely that China will assent to more marginal shifts and gradual development of a Eurasian monetary and trade bloc that incorporates gold (and potentially a peg to a basket of commodities) to support its broader ambitions for the internationalization of the yuan via its DC/EP technology. Given Putin’s dependence on China in his Ukrainian misadventure, he’s more likely to hold fire on any extreme actions, at least until Xi feels like letting him off the leash.
- While gold makes sense on the margin as a historical “go-to” form of outside money for sovereign (and individual) store of value, it suffers from many draw-backs, which led it to fail as a global monetary regime in the first place. Its protection and verification is expensive and requires large, centralized custodians. In fact, the gold reserves of 36 foreign central banks and the IMF are stored in subterranean vaults under the New York Fed at 33 Liberty Street. If the premise of one’s monetary diversification is to avoid counterparty risk and backstop a loss of faith in the U.S.’s fiscal sustainability or political neutrality over the dollar system, it’s not clear that gold in a Fed vault is any different than UST’s on a Fed ledger. Gold may work (sort of) for the emerging axis of Eurasian authoritarians as a way to bootstrap a yuan or “Eurasian euro” monetary regime to support a trading bloc that can gradually attract periphery nations and over time dominate a region of the world accounting for a majority of the global population and GDP. Such a long-term plan may or may not succeed, but it is apparently the strategy now in motion by the principal adversaries of the west.
In sum, G7 inside money now has a new form of counterparty risk attached. Some may balance to other non-G7 inside monies, but those aren’t fundamentally more attractive. Gold is the historical standby outside money, but suffers from similar custodial risk and isn’t suited to support the velocity of money and credit claims our modern trade system requires. It still relies on trust in the guarantor of the paper liabilities issued against the shiny bars claimed to exist in some distant vault. Equity markets have absorbed a massive store of value premium, but are now vulnerable to inflation as well as a dangerous dynamic as passive (price-insensitive) inflows dominate the indices, contribute to massive capital misallocation, and threaten extreme price volatility.
In addition, one may think of Apple or Amazon stock or bonds as a safe long-term investment until one plays out what happens to their supply-chains if things ever get heated with China. Real estate is a natural alternative, but it is extremely politically exposed and is likely to be the first asset class subject to extractive taxation as governments (at all levels) struggle with insolvency. Real estate also requires upkeep, isn’t globally fungible, comes with massive transaction costs, low liquidity, and is extremely sensitive to interest rate moves. Commodities themselves, as stockpiled stores of value, may supplement on the margin, but these require expensive storage and transportation, are not always globally fungible, and don’t last very long. The Confederacy thought “King Cotton” would save them in the Civil War (just as Russia is now attempting to use oil). In the end, it didn’t work out the way they thought.
This brings us to Bitcoin, which is a novel synthetic, and absolutely scarce, digital commodity with global fungibility, limited counterparty risk (zero if self-custodied), large and growing liquidity, and unit scalability to settle any quantity of value. Its monetary properties offer a similar (if not better) scarcity and bearer profile than gold (and other commodities). Its technical properties offer a similar (if not better) transactional and settlement profile than fiat-exchange system rails (e.g, SWIFT, FedWire). As an open source, global software project it is undergoing continuous innovation, especially in the surrounding domain of interoperable second-layer protocols (e.g., Lightning Network and related applications) that extend its usability to everyday commerce in mobile-first environments around the world. It thus can serve as a “reserve asset for the people” that isn’t naturally centralized by central banks or large financial institutions.
From the perspective of a FX reserve manager (especially one caught on the diplomatic fence and pulled between the rising East-West dichotomy), Bitcoin, as a politically neutral reserve asset, may become marginally more attractive. It helps that this neutral reserve asset, being natively digital, comes with its own decentralized rails for trustless transaction and settlement. Some nations may apprise the increasingly fraught geopolitical environment and seek to hedge their position with an outside money system that is mostly insulated from transactional interference. I say mostly insulated as, for now, bitcoin-to-fiat rails will be mostly subject to the political control of jurisdictions in which those rails are operational.
States will still seek to control and monitor Bitcoin (and related stablecoin) flows as best they can, which will set up a technical arms-race between protocol development and chain-analysis. Some states may desire the benefits of holding Bitcoin for themselves, but seek to limit domestic, individual engagement. Such roadblocks (via internet restrictions, monetary surveillance, etc.) may be successful for a time, but the “Trojan Horse” effect may be difficult to stop, and the halting-but-steady pattern of adoption-appreciation-adoption continues apace.
In the United States, the rise of Bitcoin companies (especially miners) as economically (and soon politically) powerful entities will likely mitigate any extreme federal government response, and will result in pro-Bitcoin coalitions at the local and state level, and increasingly represented in Congress and future WH administrations. As President Biden’s Executive Order on Digital Assets (and other statements by officials such as Gary Gensler and Janet Yellen) makes clear: the United States will most likely accept Bitcoin’s gradual adoption and increasing monetization. While some incumbents and officials see Bitcoin as a threat to certain political projects (i.e., Modern Monetary Theory-inspired fiscal spending and Central Bank Digital Currency surveillance regime and capital control system), many others will come to see the inherent geopolitical advantage Bitcoin can accrue to the United States.
For if our adversaries are attempting to overturn the USD-UST system and related international order to build their own competing bloc dominating Eurasia with gold, energy, and commodities at its heart, what is our counter-response? We could agree to re-monetize gold, but given Russia and China’s holdings, that would rebalance the monetary center of gravity in their favor. We would benefit from the relief of the exorbitant burden and the resulting shift in capital flows and trade deficits would help rebuild our domestic manufacturing base. But it would mean accepting a much diminished role for the U.S. in the world system, and a ceding of significant power to emboldened authoritarians dominating Eurasia. It’s not clear that such a system would be inherently any more stable than the current one, and not lead to war eventually.
Many western technocrats see salvation in some combination of G7 fiscal reform, energy revolution, domestic CBDC tech, and a compromise monetary regime anchored more significantly to Special Drawing Rights (SDRs). In such a regime, the U.S. would use its incumbent power over institutions like the World Bank and the IMF to move towards a global system of interoperable CBDCs to support eSDR issuance (that may or may not prejudice or exclude compatibility with China’s DC/EP). In such a vision, these eSDRs may help sustain a version of globalization, balance and settle global trade, and accommodate rising powers without the west giving up too much control. Whether China (and OPEC+) would accede to such a system is an open question.
This system would help shore up nervous national governments’ control over restive populations by concentrating key technical powers over savings and commercial transactions. It would enable more tailored forms of capital control and allocation to direct financing to politically preferred sectors (e.g., “green” industries) while squeezing disfavored firms out. One could see the west moving closer to a Chinese model of state-capitalism and a similar direction in national approaches to individual rights and political expression.
Bitcoin, on the other hand, offers an alternative. One that future elected leaders (under pressure from a growing cohort of Bitcoin voters) may come to recognize as a rapidly growing economic phenomena as well as a quasi-political social movement. From a national security perspective, key decision-makers may realize that the fact that allowing Bitcoin to monetize alongside (or outpacing gold) would disproportionately benefit the U.S. (whose citizens and firms HODL potentially a majority of all Bitcoin, and whose companies and capital markets would grow in tandem). That is, while China and Russia double-down on analog gold, the U.S. can countermove to digital gold.
As China faces energy scarcity, North America’s (and our close ally Australia’s) prodigious energy abundance gives our states and locales a natural advantage to compete in the global, zero-sum proof-of-work hash race for the block reward. The unique demand characteristics of Bitcoin may also help drive the transition to reduce the carbon-intensity of the grid without state subsidies, and incentivize energy innovation like in Small Modular Nuclear reactors and hybrid bitcoin-battery wind/solar generation projects.
So, where might things go from here? I think it’s plausible to expect some nations (potentially smaller OPEC or other “non-aligned” nations) to invoice commodity exports in a diversified basket of fiat (dollar and euros, yes, but also ruble and renminbi) while shifting marginally to hold accumulated surpluses in outside money like Gold and (slowly and on the margin) Bitcoin. This will represent a transition from inside money to outside money, and a pendulum swinging away from globalization to regional trade blocs, with a renewed emphasis on self-sufficiency, energy and commodity reliability, domestic manufacture and “friend-sourcing” via supply chains that otherwise can’t be cheaply reshored.
The USD-UST system will become increasingly reliant on central management and “intervention”, with things like SRF, FIMA (and eventually Central Clearing) structurally more important (especially as funds are drawn down from the RRP). In particular, as long as USTs remain money-good collateral for CCPs (facilitating hedges in the offshore market for commodities, oil, and interest rate swaps), then a major disjunctive crisis in the USD system can be avoided. This is one reason to expect such CCPs to be increasingly brought under the control of national authorities (restricting leverage, increasing margin) as another form of financial repression (creating another forced buyer of USTs).
These moves will do nothing to change the fundamental fiscal position of the United States nor restore foundational stability to the UST market. They merely mark further progression of how the private market for USTs will have to be effectively euthanized. The U.S. will never default, but the USD will increasingly buy less real stuff (namely energy and commodities) as the government tries to inflate its debt away. That said, fundamentally unstable systems can look stable for a while (like boiling a pot of water up to 99 degrees celsius) until they hit some threshold point (which is unknowable in the USD-UST system) that unleashes a dramatic phase transition.
“Prediction is very difficult, especially about the future.” — Neils Bohr (1970)
Our analytical framework and scenario analysis paints a picture of a new paradigm for a future geopolitical order. At the current moment, we are seeing the early signs of fracture in the international system. Global imbalances are extreme and legacy institutions are coming under increasing strain. Historically, such imbalances have been resolved through war and/or civil disorder. One hopes that we, civilized peoples in the modern era, have moved past such violent means. But hope isn’t a strategy. Instead, we should look to where humanity has always looked to elevate our capacities and conditions: technology.
In this sense, Bitcoin represents a real hope that peoples around the world can achieve economic agreement and gain through trade without giving up individual or national sovereignty. In a time of mistrust, we need trustless money to carry us through. Perhaps, on the other side of this disruptive period, this trustless money can form the ground upon which human civilization can anchor relations of mutual benefit and cooperation, of gains through balanced trade that can help drive the technological innovation and economic growth upon which our collective future depends.