Why Trump's tariff threat over Brics currency may be false alarm

Both the allies and adversaries of the United States (US) are preparing to deal with the second Donald Trump presidency. There are clear indications that his second term could be more unpredictable and potentially more disruptive to the existing global order than the first, and India will not remain immune to that. The relevant departments in the government are reported to be reviewing India’s trade position with the US and preparing for potential problems. While there is a strong case for tariff reduction, India must be prepared to engage with the US establishment more actively to present its position. Intriguingly, Mr Trump recently threatened the Brics countries with a 100 per cent tariff if they created a Brics currency or backed any other currency to replace the dollar. Earlier a grouping of Brazil, Russia, India, China, and South Africa, Brics has expanded to include other countries. While it is unclear what prompted the comment, it did create volatility in the currency market. The merits of the threat are thus worth discussing here.

 

First, as things stand, there is no clear danger to the status of the dollar. According to a 2022 note from the Bank for International Settlements, the dollar was involved in about 90 per cent of currency trades. Nearly 60 per cent of foreign-exchange reserves are held in dollars. Second, the desire to position a currency as a reserve currency by itself does not mean much. Further, as of now, the shape and workings of a potential Brics currency are unknown. So, Mr Trump’s statement was perhaps a warning shot to discourage the members of the grouping, particularly China, from taking the currency project forward. In any case, India should be wary of such an attempt. Since China is a much bigger economy, it is likely to have a much higher weighting in the instrument, depending on how it is designed. Third, some global trade may move to the yuan over time because of the size of the Chinese economy and its trade linkages. However, the traction will remain limited because of strong Chinese capital controls. In terms of reserves, according to the International Monetary Fund data, foreign-exchange reserves held in the Chinese currency in the second quarter of 2024 were worth about $245 billion compared to over $6.6 trillion in dollars. Countries will always look at the ease of transactions in trade and the depth of financial markets in holding reserves, which clearly favour the dollar.

 

However, it is worth noting that if the dollar’s position is undermined over time, it is more likely to be because of US policies. It is the weaponisation of the dollar-dominated international financial system that is forcing some countries to look for alternatives. Further, Mr Trump’s preference for higher tariffs and the desire to eliminate the trade deficit can go against the dollar. It is the US trade deficit that supplies dollars to the rest of the world. The world will be forced to look at alternatives if the supply diminishes considerably. For India, while the establishment of GIFT City will help bring some financial services onshore and possibly reduce costs for corporations, its dependence on the dollar is unlikely to decline in the foreseeable future. Even if the yuan becomes more popular, the dollar will remain India’s preferred currency. Aside from the inherent strength behind the dollar, India’s interests are more aligned with Washington than Beijing.