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A World Economy Made of BRICS?

Economics / Emerging Markets Aug 22, 2014 - 03:54 PM GMT

By: Submissions

Economics

Rodney Johnson writes: Brazil, Russia, India, China and South Africa (BRICS) recently announced the formation of a Contingent Reserve Arrangement (CRA), which will provide loans to member countries if their foreign exchange reserves run dangerously low.

This fund is supposed to show the world that the BRICS can survive without the International Monetary Fund (IMF) and its main patron, the U.S., and that countries are taking concrete steps to shake their reliance on the U.S. dollar.


Upon close inspection, it appears that the structure is in place, but it’s coupled with nothing more than an empty bank account and a lot of caveats. The CRA is a protective, yet flimsy wall made of paper maché instead of solid brick and mortar.

The treaty that brought the CRA to life calls for funding the new entity with $41 billion from China, $18 billion each from Russia, India, and Brazil, and $5 billion from South Africa, although no money will change hands anytime soon.

The accord also states that each country retains sole possession and control of their contribution until such time as there is a call for funding.

In essence, each country pledged money, but doesn’t have to put up any cash. This way the five members get political credit for nothing more than a signature.

And it gets better.

Members can request loans of up to 30% of their allotment whenever they want. The request requires approval from a simple majority of the members. However, a bigger loan requires a unanimous vote of the members as well as proof that the requesting country is already participating in an IMF program loan, and is in full compliance with the terms of that loan.

In addition, a requesting country can’t be delinquent on any multilateral or regional institution loan. So the powerful new CRA, which is supposed to be a challenger to the IMF, actually requires that a member requesting a sizeable loan has already groveled at the feet of the IMF and agreed to any terms that organization has imposed.

As for the workings of the CRA, a few procedural points can be managed by a simple vote of the members where a majority carries the day, but anything of note must be approved by a weighted vote of the members.

Given that China is 41% of the fund, the country is the big man on campus, and can almost single-handedly put down any change it doesn’t like. This sounds an awful lot like what exists today at the IMF.

The “get-out” clause includes a provision that stipulates that member countries can choose to refuse funding when they are facing hardship themselves. In other words, if the world markets lose faith in more than one of the BRICS countries at the same time, then every country must fend for itself.

Somehow, none of this instills a lot of confidence.

If countries aren’t putting up any cash, and can claim hardship so that they never have to, will the fund be able to perform its function in a crisis? No one will know until a crisis actually arrives. When it does, we’ll see if the mortar holds or the BRICS just fall apart.

There is a better way.

The BRICS could have copied the IMF, which got its original funding from the Exchange Stabilization Fund (ESF) of the U.S. The ESF, in turn, was funded by the U.S. Treasury when Roosevelt confiscated gold from U.S. citizens in 1933 and then promptly devalued the dollar.

This move resulted in a windfall profit that allowed the creation of the ESF, and has been used as something of an exchange slush fund by the U.S. for over 70 years. Since several, if not all, of the BRICS have nationalized assets, they should have enough funds floating around to kick in some real, albeit stolen, cash.

Until this fund gets on firmer footing, I don’t see it truly competing with the IMF, and certainly not leading to a reduced role for the U.S. dollar in international finance.

Rodney

http://thesovereigninvestor.com

Rodney works closely with Harry to study the purchasing power of people as they move through predictable stages of life, how that purchasing power drives our economy and how readers can use this information to invest successfully in the markets.  He’s a regular guest on several radio programs and is featured on television where he discusses economic trends ranging from the price of oil to the direction of the U.S. economy. He too is a regular guest on Fox Business’s “America’s Nightly Scorecard.”

© 2014 Copyright  Rodney Johnson - All Rights Reserved

Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.


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