In response to the harsh restrictive measures imposed against Russia, both micro and macro agents set out to explore alternative non-dollar instruments for international trade transactions and reserve accumulation. Naturally, they first turned to available solutions, which, however, will only be temporary, for the short-to-medium term, while a new IR management architecture is in the process of being devised.

Gold has historically been an attractive asset, as it enjoys the highest degree of confidence due to its inherent value. The major reserve currency issuers and emerging economies no longer have mutual trust. The latter have accumulated considerable reserves, so diversification in favor of gold seems to be the best solution under the current circumstances. Countries have already started to take advantage of it: ever since the global financial crisis, central banks have acted as net buyers of gold. Over the first three quarters of 2022, their demand rose to 673 tonnes, more than the total purchases in any full year since 1967.

The stock of the SCO member and observer states amounts to 5,946 tonnes, or 19% of the gold reserves of all central banks in the world. Today, gold reserves account for approximately 13% of all IR around the world, but in some SCO countries, they already exceed 60% (Fig. 2), just like in the countries issuing reserve currencies, i.e., the USA (66.6%) and the Eurozone (65.4% in Germany, 62.4% in Italy, and 57.3% in France) who require liquid funds to a lesser extent.

Figure 2.

Gold reserves in Shanghai Cooperation Organization member states in Q3 2021.

Source: World Gold Council (https://www.gold.org).

Countries may revert to the legacy practice, with gold as the main asset in the IR structure. There are a few limitations, however, when it comes to gold as the sole reserve asset:

• • Gold does not serve as a means of payment: a current account surplus can be converted into gold, but gold may not be used for direct interventions in the foreign exchange market.
• • Risk of price manipulation: the United States and other major economies could crash gold prices by selling their reserves to exert economic pressure on countries that are holders of gold. This will not affect long-term prices but may jeopardize economic security in the short term.
• • Limited supply: about 3,000 tonnes of gold are mined annually, or $187 billion at its current price. It cannot accommodate the conversion of the majority of the reserves into gold, and any surge in demand coming from central banks will result in gold shortages and soaring prices.
• • Transactions in gold may also fall under sanctions. That said, countries can maintain control over their physical reserves of gold and sell them via over-the-counter transactions.

Gold will not be able to fully replace foreign exchange reserves and perform all their inherent functions. Yet the trends toward increasing demand for gold already exist and will most likely hold up in the future.

The renminbi’s share in the global financial system is disproportionately small, compared to China’s share in global trade and the world economy. This might compel this currency to grow in the future. China accounts for 18% of global GDP and almost 11% of foreign trade turnover, but less than 3% of global foreign exchange reserves are kept in renminbi, and only 2% of all transactions on the international foreign exchange market are executed in this currency (Fig. 3).

Figure 3.

Weight of countries and their national currencies.

Sources: IMF; World Bank; BIS; SIFMA.

China is committed to internationalizing the renminbi, and has formalized it accordingly: the 13^th Five-Year Plan (2016–2020) defined the strategic goal of improving the convertibility of the yuan and its role in international transactions. Reducing dollarization of the Chinese economy will reduce its dependence on the United States, lower the risks inherent in the value erosion of Chinese dollar assets because of quantitative easing in the USA, and may potentially decrease the costs for the economy (Vinokurov, 2021).

Certain macroeconomic constraints, however, still prevent the renminbi from assuming a role in the global financial system commensurate with that of the U.S. dollar or the euro.

Within the Impossible Trinity hypothesis,³ China chooses a fixed exchange rate over the open capital account. Closed capital accounts limit investments in renminbi assets aimed at accumulating reserves.

China relies on the suppression of domestic demand as its savings constantly exceed its investments. To enable the accumulation of renminbi reserves by other countries, China will need to give up its current growth model to build current account deficits. There is much to be changed, however. In order to make sure other countries can accumulate RMB reserves in amounts equivalent to their current U.S. dollar volume, China would need to increase its share in global reserves by $6.8 trillion, or 7% of global GDP and 39% of China’s GDP.

Turning to the renminbi is not a panacea for other countries; they will still be dependent on one country, only now it will be China and not the United States.

Before the introduction of the gold standard, gold and silver shared the role of reserve currencies, while in the 19^th century, large amounts of global foreign exchange reserves were held in British pounds, French francs, and German marks (Demianenko and Overchenko, 2022). The era of U.S. dollar dominance might also result in the formation of a fragmented system, where reserves would be made up of a broad group of alternative currencies.

There are numerous advantages to a system in which multiple countries issue reserve currencies (Farhi and Maggiori, 2018; Carney, 2019). This requires more coordination and ensures diversification, unlike under the dollar-centric system; the overall volume of issued currencies remains adequate but each country’s share is relatively small. This also suggests competition between issuing countries and a consequential reduction in the premiums they receive. Such a diversified system would also reduce the synchronization of trade and financial flow cycles among countries, ensuring consistency in capital flows.

Non-traditional reserve currencies are gaining popularity. In late 2021, over $0.8 trillion was held in currencies other than those included in the special drawing rights (SDR) basket, with $10 billion held by 13 countries. The major diversifying currencies are currently issued by developed countries, with no protection against sanctions. Currencies pegged to the U.S. dollar are underused, although they could ensure the nominal value of reserves and reduce the risk of a freeze-up, for example, the Hong Kong dollar and currencies of the Gulf States, including the UAE dirham, Qatari riyal, and Bahraini dinar.

Under this scenario, the key limitations are the low capacity and liquidity of the majority of national financial markets. U.S. Treasury bonds outstanding at the end of 2021 were worth $7.7 trillion, comparable with European, and, arguably, Japanese markets. At the same time, the Eurozone countries and Japan have a current account surplus and cannot substitute for the American market. The debt market in the emerging economies is limited; following the pandemic, debt has already boomed, requiring increased government attention. Furthermore, borrowing is becoming increasingly expensive as developed economies tighten monetary policy.

Countries whose securities will substitute for U.S. Treasury bonds will face the same negative impacts as the U.S. economy: reduction of the current account surplus or widening of the current account deficit, strengthening of the national currency, a growing budget deficit, and/or increased unemployment. Eichengreen (2011) and Pettis (2013) list Germany, Japan, and Korea as examples: their central­ banks did not encourage massive purchases of the countries’ debt securities and took action to curtail foreign investment inflows.

There are contributing factors driving countries to increasingly use alternative currencies (Iancu et al., 2020, Arslanamp, 2022):

• • Financial (development of the domestic debt market in developing countries with higher rates relative to developed countries);
• • Economic (localization and regionalization of supply chains);
• • Geopolitical (consequences of commercial disputes and international sanctions);
• • Technological (development of financial technologies and payment systems).

Investments in non-traditional reserve currencies, however, have some disadvantages. They are exposed to higher risks because of the lower debt sustainability of their issuing countries and incur additional transaction costs due to exchange rate volatility.

Alternative currency countries could accumulate reserves provided that they comply with certain conditions: they should be engaged in extensive trade relationships with the issuing countries; their external debts should be denominated in the currencies of those countries; and, therefore, they could be used for interventions in the foreign exchange market.

Bilateral swap lines pursue economic, financial, and geopolitical objectives, though those may be interpreted differently by the creditor and the beneficiary. The network of swap lines expanded significantly following the global financial and economic crisis; their number increased from a few units in 2007 to 74 at the end of 2019, and up to 91 during the pandemic. By the end of 2020, the total value of bilateral swap lines reached $1.9 trillion (Perks et al., 2021).

Countries have entered into bilateral swap lines with the Fed, the ECB, the People’s Bank of China, the central banks of Japan, Qatar, and the UAE. Eight SCO countries have signed bilateral swap lines with China amounting to RMB 213.7 billion (approximately $30 billion), and India and China also have bilateral swap lines with Japan to swap their local currencies (either Japanese yen or Indian rupee) against the U.S. dollar for an amount of up to $75 billion (Table 1). This means the total amount of swap lines in the SCO members exceed their total reserves. The interest of the recipient countries in borrowing from renminbi swaps consists of expanding trade turnover, servicing Chinese loans, and replenishing their national reserves (Vinokurov et al., 2020).

Bilateral swap arrangements can finance balance of payments gaps. Swap lines are different from other ways of financing balance of payment deficits: they do not require the adoption of specific macroeconomic and structural policies. In certain cases, bilateral swap lines may allow for unsustainable policies, according to IMF assessments. Swap lines could potentially complement the alternative illiquid forms of resource accumulation, although their net should be expanded to other currencies, including Russian roubles.

Assets accumulated in sovereign wealth funds total over $10 trillion, with the top 10 holding $7.3 trillion, which is comparable to the global IR volume. Some of their resources tend to overlap and duplicate, given the specifics­ of certain countries’ statistics.

Such funds are operated differently from the IR, governed by the Santiago Principles.⁴ They are established and owned by the government based on general macroeconomic goals and designed for investing in foreign assets in line with specific financial objectives. Most of the resources of the funds, as well as IR, are concentrated in the assets of developed countries, and a reorientation to emerging markets is limited by supply.

Almost 20 SWFs operate in nine SCO countries (not including public pension funds) with assets of $2.9 trillion (Table 2).

We believe that sovereign wealth funds could revise the way they operate. For example, countries could create a special fund focusing on investments in foreign markets of friendly countries to generate highly diversified investments, both in instruments and geography, including strategically important investments. Another option is to expand the shift of investments towards top priority national economy projects. The third scenario, in the case of developments proceeding along a multilateral track, involves the formation of regional funds that would accumulate resources of several countries, building sanctions resilience.

New safeguards could improve the safety of reserve assets without fiat money or any attributes of national identification.

Countries may opt for spending reserves on acquiring and holding limited physical assets. Their volume would significantly exceed domestic market needs, and if necessary, their resources would be traded to obtain the required currency. They can form reserves using non-ferrous metals and rare-earth metals, energy commodities, and food products.

There are numerous benefits to accumulating reserves of valuable resources, namely:

• • Countries can ensure production output in several sectors, offsetting the impacts of economic, commodity-related, and other cycles;
• • The marginality of specific sectors can be maintained by managing the supply of goods on the global or regional markets;
• • Countries can control their physical assets, ensuring maximum protection of their integrity.

The constraints are their storage costs, maximum storage period, significantly lower liquidity than foreign exchange reserves, and volatility of their value.

Reserves will be pro-cyclical for commodity-exporting countries (the majority of the SCO countries). The benefits resulting from the formation of commodity reserves, however, may accrue to importing countries like China or India.

Reserve accumulation by commodity exporters may have an impact both on the domestic foreign exchange market and on foreign exchange trans­actions with the outside world. On the domestic foreign exchange market, commodity-exporting companies will become more relevant because they will act as the reserve managers instead of central banks. On foreign markets, exporting countries can potentially generate stronger leverage for their national ­currencies.

As part of the reorganization of international assets, the accumulation of physical resources serves virtually no purpose aside from the actual accumulation. To perform other functions, physical reserves could become part of swap agreements with other countries, which would guarantee the exchange of resources and currency and increase their liquidity and potential for expeditious use.

Central banks view private cryptocurrencies as competitors, undermining their monopoly on the emission of money, and as a tool for money laundering and the circulation of funds on the black market. So they prevent cryptocurrencies from being granted the full-fledged status of legitimate currencies. Secured stablecoins issued by the Big Techs have the potential to fundamentally impact global monetary and financial stability due to the large user base and its fairly high confidence in this cryptocurrency (IMF, 2020). Hayek (1996) explored the theoretical performance fundamentals of such systems in his theory of “private money.”

Due to the fact that they circulate extensively in transactions between economic agents, central banks may be forced to accumulate some reserves in such currencies. Given the current penetration of tech companies’ products (Facebook, Telegram, etc.) into people’s lives, stablecoins may well spread in an instant. This will follow the traditional pattern: currencies would be granted the status of “reserved” once traded in different countries.

It is hard to imagine central banks viewing the accumulation of stablecoins issued by the Big Techs as the primary source of diversification of IR. Central banks would most likely decide against the legalization of private stablecoins as a currency and produce their own solutions for the digital money market, which would compete with private cryptocurrencies.

When developing digital currencies, central banks do not consider changing reserves their priority. Streamlining such currencies from a technological perspective would somewhat increase the demand for currencies in countries with trustworthy macroeconomic policies. According to the IMF (IMF, 2020), digital currencies of foreign central banks may gain momentum in replacing national currencies, but only in countries with weak macroeconomic policies. Their supply, however, will still be constrained by macroeconomic factors, which would limit the growth of non-SDR currencies in the IR structure.

As opposed to central bank digital currencies, central bank stablecoins could become an alternative national currency, provided they are granted legal status. Nationally backed stablecoins could fill the niche of reliable money, serving as a means of payment, exchange, and accumulation. In contrast to existing stablecoins issued centrally and secured by gold assets (for example, Digix Gold), stablecoins issued by a central bank will be different in that their issuer will be the central bank and not a private company. They will be duly secured, as opposed to fiat money issued by central banks. Central banks may consider options for securing stablecoins. The most obvious and least expensive solution involves gold reserves, but reserves of other valuable resources may also serve as security (see above).

Such an unprecedented move, however, would require countries to revise key macroeconomic laws and financial security regulations as it generates significant risks for financial security and monetary policies. The impact of the central banks’ controls over inflation may decline because the key rate will affect only a portion of the national currency in circulation. It may lead to an outflow of deposits from the banking system for the benefit of savings in stablecoins, and a decline in the assets of banks.

In the future, an intergovernmental agency could be established with the authori­ty­ to keep records of the amounts of gold reserved by each of the central banks, to issue supplementary stablecoins subject to additional security deposits in gold, and to handle the logistics of the exchange of physical gold for stablecoins.

Currently, the resources of all RFAs (Regional Financing Arrangements) total about $1.3 trillion, ten times less than the total foreign currency reserves (Vinokurov, 2019). But RFAs functions and coverage expand over time. In the beginning, they were just regional lenders of last resort, but gradually they started fulfilling unique functions, such as reserve management, treasury, clearance, and financing of investments in basic infrastructure.

One safeguard against the freezing of reserves would be to elevate them to a supranational status by endowing the RFAs with friendly countries with the role of “depositary” of reserves as their national affiliation presents a vulnerability.

Principles of operation of RFAs as “depositaries”:

• • There are two flows of member countries’ contributions to RFAs. The first generates funds for subsequent lending to member countries suffering (or likely to suffer) from liquidity shortages or balance of payments problems, as in the past (Vinokurov et al., 2019). The second builds the liquid reserve assets of the RFA, which can be expeditiously drawn on by member countries.
• • Member countries make contributions to RFAs’ reserve assets in their national currencies. The RFA converts these contributions into foreign currency or other financial assets, based on the requirements for maintaining their liquidity, value, countercyclical nature, and current market conditions.
• • Member countries are entitled to promptly draw on the funds of RFAs’ reserve assets according to what they actually contributed, with no approval from the other members of the RFAs required.

Obviously, the more countries take part in the formation of reserve assets, the more reliable the RFA will be.

In the 1920s, economists could not imagine a global financial system without the gold standard, and now the current dollar-centric system appears to be just as indispensable. In reality, though, entirely new and radical approaches can be adopted with regard to the management of international reserve assets.

To ensure economic security, countries might prioritize increasing the internal capacity of the economy because of the vulnerability of the reserves. Domestic resources will consequently act as a buffer, absorbing potential shocks.

That would require an increase in domestic demand, a reduction in the current account surplus and accumulated reserves, a restriction on foreign currency loans and credits, an increase in domestic production of critical goods, and the use of national currencies in foreign trade. It all may increase exchange rate volatility, but its impact would diminish due to the reduction in the imports-to-GDP ratio and the extent of financial dollarization.

Countries can deal with the shortage of reserves by entering into swap agreements with trading partners (for smoothing purposes), expanding the functionali­ty of the RFAs (for macroeconomic stabilization), and accumulating resources in other instruments (gold or a sovereign wealth fund).

It may be challenging to handle all macroeconomic adjustments in the global economy as they stem from unilateral moves to restructure the IR. Countries could consider renegotiating and reaching a new multilateral agreement on reforming the IMF to potentially establish a global synthetic currency (GSC). It would eliminate and prevent the accumulation of macroeconomic imbalances, as well as make reserve accumulation easier.

It was J. M. Keynes who first defined the fundamental principles of the GSC at the Bretton Woods Conference. He advanced the idea of creating a supranational unit of account (bancor) and introduced the concept of the International Clearing Union (ICU). The ICU was governed by the principle of equitability of assets and liabilities, which was intended to rule out deficits in settlements between national central banks, and did not contemplate the accumulation of reserves in foreign currencies. In other words, the ICU was conceptualized as a bank with responsibilities for financing temporary imbalances in trade between countries. But, unlike the IMF or any regular commercial bank, the proposed ICU would not lend funds from its assets (deposits or equity). Instead, a member state of the Union would simply be allocated a current account denominated in the international unit of account, the bancor. According to Keynes, it is created ex nihilo, and its formation does not depend on any decisions by government authorities or central banks (Fantacci, 2013).

Economists have repeatedly revisited the concept of a supranational currency, including Zhou (2008) and Carney (2019). Their comments, however, were interpreted by some experts as political statements rather than economic propositions.

Such a unit would make sense only if all countries joined the system, as in the IMF pattern, because a new regional currency created by a group of countries would simply force the imbalances into this system.

The GSC is the most effective solution for reforming the global financial system. The countries, however, must be willing to accept the restrictions associated with the introduction of the GSC, and this is a major issue.

An Energy Standard is yet another revolutionary solution for the financial system. As a commodity, it is universal, which makes energy valuable and unique in all its various forms. It is a crucial factor of its indispensability. The critical value of energy will only continue to grow amid the decline in fossil energy sources, current technology development, and global energy transformations (including a future transition to green energy).

Over the past decades, researchers have advanced many concepts and models of energy currencies (derivatives) (Odum, 1995; Swann et al., 1997; Douthwaite, 1999; Collins et al., 2013). There have been numerous experimental projects: the Wära quasi-currency in Germany in the first half of the 20^th century (Collins et al., 2013); the WAT quasi-currency in Japan in 2000, which was pegged to renewable power sources: one WAT corresponds to one kWh of “clean” electricity­; and the complementary currency, CHARCOAL, secured by charcoal (one unit of CHARCOAL equals one gram of charcoal) (Lietaer, 2004).

An energy currency might be superior to traditional fiat money as a more reliable means of accumulation (forming critically important reserves), as a currency with a more stable value over the long term (energy will always be in demand), and as a universal measure of value. The technical design of an energy currency might vary: energy-based money can be generated either with reference to a specific type of energy (to serve as a unit of value), or can be physically secured by energy resources. The latter could also be convertible (based on its security) or non-convertible.

An Energy Standard currency poses a lot of challenges given its technological sophistication, but it could also preserve the value of accumulated assets in an entirely unique way, and provide the much-needed flexibility to manage and dispose of them.