The world of multipolar finance has arrived. It is possible for the United States to endure it, but only if big political and economic adjustments are made at home. It's time to start considering what they should be.
According to Costabile (2022), the dollar has been de facto the principal world reserve asset for nearly a century, owing to the United States' dominance in gold holdings and its creditor position with respect to the European belligerents in World War I. The roots of the gold-exchange standard created at Bretton Woods in 1944 were US military and industrial dominance, soon to be backed, in the shadows, by a monopoly over the atomic bomb.
An overview of the neoliberal period
The gold-exchange standard ended on August 15, 1971, and the neoliberal era began, though we didn't realize it at the time. Devaluation, export controls, wage freezes, and outright fiscal stimulus – these were Keynesian and even wartime policies that appeared to suggest a mass conversion of Richard Nixon's inner circle to full employment, price stability, and managed commerce. The Washington Post contacted my father, World War II price control head John Kenneth Galbraith, for comment. "I feel like the streetwalker who has just been told that her trade is not only legal, but also the highest kind of city service," he said.
The image persisted throughout 1972, when the economy exploded, enabling Nixon's re-election with full employment and the highest real median wage in history. However, the boost ceased in 1973, regulations were weakened or expired, oil prices skyrocketed, and the accompanying general inflation was met by high interest rates, leading in a new downturn in 1974. Pre-Keynesian dogmas reappeared in an upgraded toga at that point. The Phillips Curve was pronounced vertical, resulting in unemployment being set at a "natural" rate and the central bank being entrusted (by academics, but not yet in practice) with price control via money supply regulation. Any attempt to enhance real performance – unless "rigidities" like union pay contracts, unemployment insurance, and welfare programs are eliminated - would result in hyperinflation and the dollar's collapse. Capitalism was thus a child of beauty, natural health, and balance – but prone to episodes of hysteria or sadness if its monetary Momma fed it too much or too little.
As the Smithsonian agreement enshrining floating took hold in the 1970s, exchange rate theory often supplemented domestic doctrine. Deficits would induce devaluations, while surpluses would bring appreciations, according to David Hume's specie-flow model. If the Marshall-Lerner conditions remained, the current account would be restored through a realignment of relative prices. For a time, everything seemed to be going according to plan: US trade deficits pushed the dollar lower, while comparable surpluses pushed the Deutschemark and the yen higher.
The Marshall-Lerner conditions, on the other hand, did not hold, and trade balances did not restore to equal exports and imports. Rather, the United States issued Treasury bonds, while Japan and Germany amassed financial assets. And, outside of China and India, the balance in the Third World was essentially determined by the presence or absence of oil. Oil demand, it turns out, is remarkably price agnostic. As prices rose, it was the greatest of times for producers. And as long as oil importers wanted to expand, they had to foot the cost with commercial bank borrowings, on conditions dictated by the bankers, and at rates determined in the end by the Federal Reserve's policy.
The breakdown of the Bretton Woods system set in motion the final defeat of New Deal banking regulation and balanced international financial governance, restoring financiers to the heart of American and global economic power. Internally, that genie had been bottled up for forty years by regulation, deposit insurance, and the Glass-Steagall Act, so that banks were essentially adjuncts to huge industrial businesses and under the state's fairly effective discipline in the 1940s, 1950s, and 1960s. As a result, there were no financial crises from 1934 to 1974, when Franklin National Bank failed, followed by the City of New York's "fiscal crisis" – really a bankers' crisis – in 1975. Capital controls and the IMF had given (in theory) a similar damper on the international front. The currency casinos reopened after 1971, particularly in 1973.
The 1970s appeared to be a successful time for oil exporters and most importers alike in much of the Third World; credit flowed freely and bills could still be paid. As a result, there was no propensity for trade imbalances to self-correct in either the global North or the global South. Banks profited as their balance sheets rose, while the agency in charge of maintaining the interest rate gained latent power.
The specific circumstances of the United States in the 1970s were of economic aspirations that were, if not inherently incompatible, then unachievable with the instruments available at the time. High employment in the face of industrial encroachment, particularly from Germany and Japan at the time; reasonably stable prices in the face of peak domestic conventional oil production, rising imports, and rising prices; and a strong international dollar, which was central to the bankers' power, prestige, and worldview. Ultimately, the alternative was to sacrifice labor and industry while breaking the back of commodity prices, industrial wages, and therefore prices, all while re-establishing the dollar as the worldwide currency of choice. Paul A. Volcker, who was appointed chair of the Federal Reserve Board by President Carter in the summer of 1979, made this decision.
The rest, as they say, is history. Volcker's initiatives, which were amplified in 1981 with the election of Ronald Reagan, were successful in achieving their goals on inflation, wages, unions, and the dollar. Exorbitant privilege was given a new lease on life, which has yet to expire, despite the later introduction of the euro. In Latin America, Africa, and Southeast Asia, autonomous development methods were forcibly abandoned; the new slogan was "export-led growth" and integration into global value chains, particularly the sweatshop component. Austerity, unemployment, reduced imports, and the sale of public assets and mineral rights were used to balance the books, if at all. When Mexico was on the verge of default in 1982, the grip was eased somewhat, just enough to secure the money-center institutions' survival. They would dominate largely unchallenged for the next two decades. The dissolution of the Soviet Union in late 1991 and the opening of Eastern Europe in 1989 reinforced the new order.
In short, with the end of Bretton Woods and most countries' abandonment of capital controls, exchange rates became, to a large extent, an artifact of capital flows, asset transactions, and relative rates of return, and thus heavily influenced, if not completely controlled, by private financial power. The appearance of prosperity would be accompanied by Dutch Disease and deindustrialization during a period of orthodoxy, confidence, and capital inflow. Asymmetric bets, like as those made against Mexico in 1994 and Thailand in 1997, have the potential to trigger a crisis. When crises strike, funds will run to the protection of US Treasury bonds, inefficiencies, excesses, and "crony capitalism" will be exposed, and the IMF will be summoned to administer ritual purgatives. The Fund and Bank became enforcers of an austerian and neoliberal code of conduct – the "Washington Consensus" – no longer concerned with exchange rate stabilization, much less with financing a development plan.
What provided support for the dollar-based system?
Thus, after 1981, the United States returned to the 1920s system, but without the backing of a gold monopoly or the early and mid-century economic and military strength. The pull of high interest rates, the debt fragility of the Global South, and the increasing disintegration of the Global East all conspired to create the dollar-based system that we have been living under ever since. The ideological and political fall of the USSR and its socialist allies from 1989 to 1991 reinforced this position, with no equivalent increase in the underlying strength of the US position. Instead, the US masked the implications of deindustrialization and the moral ramifications of its failure in Vietnam by fighting a series of little wars against seemingly insignificant foes - in which sustained triumph remained elusive.
As successive crises have demonstrated, the dollar-based order has been sustained primarily by global volatility and the lack of a credible alternative or compelling motivation to create one, or the ability to do so where such reasons exist. Even when a financial upheaval begins within the United States, as was the case with the sub-prime mortgage debacles of the 2000s and even now, the US Treasury bond remains the shelter of first resort due to its massive and liquid debt market. In short, the system has been supported by self-confidence rather than much else, as far as one can tell. This did not, however, imply that the system would collapse on its own in the near or even distant future.
The doctrine of TINA - "there is no alternative" – could never have been rejected if neoliberal hegemony had been complete. However, even in the West, the philosophy was never universally or fully implemented, resulting in disparities in economic and social success. In general, liberalized Scandinavia, industrialized Germany, Japan, and the Republic of Korea liberalized less and performed better. In the United States, the New Deal and Great Society stabilization and social insurance policies mainly held up, and the country profited from the compulsive Keynesianism of both parties' political elites when crises struck. This pragmatism, however, was hidden by a dogmatic rhetorical devotion to free-market ideas, and the industrial base continued to deteriorate while, in each crisis, the banks were saved first and foremost.
The victory of neoliberal capitalism, the United States' worldwide hegemony in a dollar-based monetary world, and the end of history itself were thus shaky. The illusion could only last as long as no plainly superior, functionally superior economic development model developed. If the neoliberals had won a total triumph, they could have postponed that day indefinitely. It wasn't, however. They couldn't do it. Welcome to China.
The Neoliberal World's Challenge from China
China's "rise" is an undeniable fact. As a result, it poses a serious threat to neoliberal ideology, despite the fact that the Chinese have made little effort to brand their experience and even less effort to export it as a competitive economic model. China is simply that, and it provides an interpretive challenge that neoliberalism cannot meet.
Consider your choices. According to one, formerly popular but now fading, China has made a successful "transition to capitalism" and attributes its success to the application of free market principles. But how can the West complain if that's the case? If one is defeated in one's own game, it is unsportsmanlike to complain.
Another argument is that, while China has played the capitalist game, it has gotten an unfair edge by breaking "the rules" — for example, by seizing "intellectual property," manipulating the RMB, or running a low-wage industrial system. This allegation, on the other hand, reveals the regulations for what they are: an attempt to safeguard the monopolies and advantages of the already wealthy. Every growing power has broken such restrictions at least since the 17th century, and the practice of systematic breaking of "the rules" even had a name in the 19th century: "The American System."
The third alternative, championed by voices as diverse as Mike Pompeo and Robert Kuttner, is to portray China as a "totalitarian" state, an aggressive economic force led by its Communist Party. In the economic realm, however, this solution entails admitting communism's supremacy and capitalism's and democracy's inferiority. It so entirely disproves the triumphalist posture that gave neoliberalism legitimacy forty years ago.
The China seen through trained but unfiltered eyes does not easily fall into these neat categories. It has the following distinguishing features:
- It has a plethora of organizational forms – public, private, joint venture, state, provincial, municipal, township, and village.
- These are financed by a state-owned banking system that provides elastic support to activity in the interest of maintaining social stability, a paramount goal, and that has a long history of doing so.
- The state, at various levels, has substantial land control and thus the ability to earn land rent, as well as the ability to spur and direct major investment projects in urban construction, water management, electrical power, and mass transportation, including roads, air travel, and, more recently, high-speed rail.
The larger economy is capable of absorbing Western technologies as well as developing its own, as well as meeting Western market standards, thus resolving historical socialism's consumer goods quality-control problem; and, finally, China is protected from international financial predators by a large foreign currency reserve and the continued application of capital controls.
Over a little more than 50 years, the Chinese model has succeeded in eliminating mass poverty, producing an urban world that is essentially secure, and a population that is educated and healthy. It succeeded in organizing that people to battle the Covid-19 epidemic in 2020, as no other Western culture, with the exception of New Zealand, had done before. It currently exports technical services to underdeveloped countries on attractive financial terms and without any ideological or diplomatic baggage. It doesn't need to advertise it because the model's success and the popularity of the offers speak for itself. As a result, the Western public-relations counteroffensive, which focuses on weaknesses and charges both real and imagined, must be intense.
Will the growing Eurasian Economic Union and Shanghai Cooperation Organization, which is increasingly linked to a reconstructed Russia and the gravitational pull of the world's largest population, productive, and trade region, mark the end of Bretton Woods? Is the international order based on the dollar finally coming to an end?
The answer to this question is dependent not only on the size, productivity, and technical development of the Chinese nation and economy, but also on the role of Chinese financial assets in the global economy, as compared to the incumbent role of financial assets of the United States, Europe, and other "Western" nations and international institutions, such as the IMF.
By purchasing power parity, China has overtaken the United States as the world's largest economy. It is the largest trade nation on the planet. However, it does not play a global financial or security role and has no apparent plans to do so. Indeed, it may be argued that taking on such tasks would be antithetical to China's development model, which is based on construction and production rather than finance, and is militarily defensive and relies on international institutions, law, and collaboration to keep the globe at peace. China also uses capital controls to protect its internal assets and limit the external reach of its economic actors; it does not run current account deficits that would force large-scale financial claim expatriation, which would be incompatible with China's position in the global production system and risk causing internal instabilities that the Chinese government cannot afford. Finally, China possesses over a trillion dollars in US government bonds, which it cannot simply sell even if it wanted to do so without depreciating its own holdings by altering bond prices or the dollar's exchange rate.
What China can do in the long run is take two measures that are clearly on the table. First, it can organize bilateral or multilateral payment systems with willing partners that avoid using the US dollar as a traditional means of exchange. It might, for example, pay for Iranian oil with RMB and then take RMB in exchange for Chinese commodities. This works as long as non-dollar commerce is fairly balanced, ensuring that the surplus partner does not wind up with substantial holdings of a financial asset it may not want, fully trust, or be able to utilize in further deals. However, if trade remains uneven for a long time, one party or the other may end up with financial assets denominated in units that are deemed inadequately stable or liquid. As a result, the subject of a reserve asset other than the dollar is eventually posed.
A common reserve asset for the emerging non-dollar trade area appears to be the obvious solution to this challenge. Of course, gold bullion has played this historical role. Gold is unlikely to play this role in the current world due to its great price volatility, whilst other commodities are prone to depletion via consumption as well as speculative instabilities originating beyond the common reserve zone. The logical approach is an international financial asset composed of a weighted set of the participating countries' national bonds, as in recent Eurobond schemes, backed by joint commitments from China, Russia, Iran, and other participating countries, such as Kazakhstan and Belarus, in proportion to size and capacity. In the context of Eurasia, this translates to a bond that is primarily RMB-based and backed by China. Only time will tell how long such an instrument will hold up against a US Treasury bond.
These are the prerequisites for a non-dollar financial zone to arise. It is clear that they are extremely strict. Efforts by one government or another to advance in this direction may be blocked (as in the case of Iraq in 2003) or deterred by the fear of sanctions. Large shifts in the global financial system appear to occur only in unusual conditions.
The Financial Future and the Global Crisis
The global crisis that erupted on February 24, 2022, when Russia and Ukraine went to war, has already dramatically rearranged trade and financial relations. Many Western corporations withdrew from Russia, NordStream 2 was "suspended," airspace was barred, and NATO countries froze Russian central bank assets while seeking to collect the private property of Russian people suspected to be related to the Russian state. Even if interest on the frozen assets continues to accumulate, the freezing of central bank reserves amounts to a technical default by the West toward Russia. The ruble first depreciated against the dollar, as did the price of oil and gas, Russia's main and continuing export commodities.
Russia has a solid starting position in this test of wills and power. She has almost complete self-sufficiency in all necessities, including energy, food, heavy machinery, and weapons. Local initiative – which is not lacking in today's Russia compared to Soviet times – or Chinese imports can compensate for the loss of familiar Western consumer products and services. Even after the loss of foreign-held funds, Russia's financial assets far outnumber her debts. In response to the blocking of Russian banks, Russia established ruble accounts in those banks, via which Russian debtors could make payments to Western creditors, who would then be denied access to those payments due to their own governments' actions, not by Russia. This means that Russia's commercial debtors have a vested stake in the ruble's stability. This interest has been strengthened by Russia's determination to require payment in rubles for gas, thereby compelling Europe to work around its own sanctions or risk losing up to 40% of its gas supply. Hungary, Slovakia, and Austria have all agreed to pay in rubles so far, and Germany appears to be following suit. At the time of writing, the ruble is trading above pre-war levels.
The US plan was to exert pressure on the Russian government through its oligarchs, Westernized elites, and urban upper classes, in the hopes of influencing the Russian state's internal politics. This approach appears to be based on a picture of Russia created during the Yeltsin period, as well as a notion of the liberal West's appeal to powerful Russians, that is far removed from current socioeconomic and political reality, as well as the power balance within Russia. Anatoly Chubais' departure from his last official role and fled Russia in late March is a strong indication of this. The apparent failure of US officials to grasp this fact in recent years has to be considered one of the greatest intelligence failures in contemporary history.
In short, Russia has been completely shut out of the realm of Western global banking, in ways that have little impact on her economy but are certain to reinforce the industrial-military elements of her political structure. The primary reason behind this new international order is not Russia, but the NATO states' asymmetric, mostly financial/economic response to Russian actions in Ukraine. As a result, Russia has been forced to take actions that Western-oriented segments of her administration, particularly at the central bank, would not have considered otherwise. A new worldwide financial system is being constructed with the support of China, Iran, Belarus, Kazakhstan, and India's studied neutrality. It is, in a genuine sense, the invention of elite US officials and strategic strategists, rather than Russia itself.
Russia's worldwide economic reach, however, is limited. Her population is a quarter of that of the United States and the European Union, her GDP is substantially lower (a metric that isn't suited for the current test of strength), and her currency is historically unstable. While Russia's military might is formidable, her contribution to a new global financial system pales in comparison to China's, which, as we have seen, is a vital element of the global economy and a major trading partner of both Russia and the United States and Europe. While China is aligned with Russia in support of the latter's security objectives, it has not yet traded its existing dollar reserves in bulk for something less susceptible to political intervention but also less liquid and stable. India, sections of Africa, and Latin America will undoubtedly find methods to work with the new system, but with the exception of Venezuela and Nicaragua (as well as Cuba), this is unlikely to result in a break in their current connections with the dollar and the euro.
Conclusion: A Dual System Is Here to Stay
The dollar-based financial system, with the euro operating as a junior partner, is likely to persist for the time being. However, a large non-dollar, non-eurozone zone will be carved out for those countries designated rivals by the US and the European Union – of which Russia is by far the most prominent example at the moment – as well as their trading partners. China will serve as a link between the two systems, serving as the multi-fixed polarity's point. If comparable hard decisions are made with regard to China, a true split of the world into mutually isolated blocs, akin to the Cold War's darkest years, could emerge. However, given the Western economies' existing reliance on Eurasian resources and Chinese industrial capability, it seems improbable (though who knows?) that policymakers in the West will go that far.
In the current crisis, political leaders in the West have been put under tremendous pressure to wield powers they do not possess in order to demonstrate a commitment they may not feel. Their responses must be assessed through the lens of this pressure and the imperatives of political survival. They have so far avoided taking lethal military risks while employing the full weight of information-war assets and focusing on a sanctions regime that is part of a well-worn toolkit that has proven to be more costly to its designers than to its target in the Russian case. Political forces are difficult to forecast, and a disastrous shift toward general conflict is not unheard of. Threats to Transnistria or, more importantly, Russia itself at Kaliningrad, are foreshadowing disasters.
But, for the sake of argument, let's pretend that the world doesn't end and that relative calm prevails until the war in Ukraine fades down. As the implications of high energy costs and permanently low supplies become evident, it looks that the next turn of the global financial screw will occur in Europe, most particularly in Germany. Germany's competitiveness is dependent on Russian resources and Chinese markets, as well as the Atlantic alliance's political and financial ties. Even for the sake of the high principles now being so eloquently articulated by her politicians and press, it is difficult to conceive that Germany would permanently subject its industry, technology, commerce, and general welfare to Washington and Wall Street. The conflict between economic and political forces will only intensify over time, either leading to deindustrialization or a new connection with the Eurasian East — a new Ostpolitik, if you will. The proponents of this strategy on the German Left have been crushed, which indicates that the policy itself can be adopted after a brief pause — potentially by someone from a different political party.
As a result, while the dollar/euro-based global financial order is unlikely to collapse in a single cataclysm, it appears likely that it will lose exclusive control over at least one more big participant and her economic satellites — maybe sooner rather than later. Then there's Japan, the world's third-largest economy, which exists in the background, nearly forgotten. While anti-Russian sentiment looks to be strong, what will happen as time passes is unknown.
Can the US withstand the emergence of a multipolar world? Of course it can, as the question implies. But not without political turmoil, sparked in the near term by inflation, recession, and a sinking stock market, and eventually by calls for a realistic policy in line with the current global power balance. The ultimate threat is not to the country's living possibilities, but to its political elites, who are founded on global financial rents and local arms contracts. The wings of US finance will be clipped as the world moves away from sole reliance on the dollar. A multi-polar world necessitates multi-lateral security arrangements, which are incompatible with the current degree of US military power projection; throwing more money at a broken force structure will not make the US safer or secure, and it will exacerbate inflation. A lower dollar, on the other hand, would help to restore local reliance on vital goods, while an industrial strategy might begin the necessary reconstruction process, and investments in infrastructure and new technologies could help to mitigate the impact of rising energy costs. In any case, they are required to battle climate change, so that what is required for adaptation in the short term coincides, for the first time, with what is required for long-term survival.
In short, multi-polarity may be harmful to oligarchy but beneficial to democracy, sustainability, and public purpose. It would not come soon enough from these perspectives.