MattLevine, in an interesting essay on Russia's money after the invasion of Ukraine says :
One great theme of the post-2008 financial world is that money is a social construct, a way to keep track of what society thinks you deserve in terms of goods and services. That has always been true, but modern finance has made it more obvious. I think that 15 years ago it was easier to think that money was an objective fact. Money is a kind of stuff, you might have thought, stuff with some predictable value that you can exchange for goods and services, and you can acquire a quantity of it and then you own that money and can use it however you like to buy things.
But the response to the 2008 global financial crisis, and to its later European aftershocks, made it clear that something else was going on. Who has money and what they can do with it can be adjusted by the actions of central banks and national treasuries; banks can be bailed out; costs can be socialized. The fiscal response to Covid-19 reinforced this point: Money is a tool of social decision-making, not an objective thing that you get through abstract merit.
There has also been the enormous rise of cryptocurrency, which taught two somewhat opposite lessons about this theme. On the one hand, the value of cryptocurrency is so clearly socially constructed: A Bitcoin was worth roughly nothing a decade ago, and roughly $41,000 today, solely because people collectively decided to ascribe value to Bitcoin. Bitcoin provided a clear and salient example of the fact that money gets its value from people agreeing that it’s valuable.
On the other hand, though, crypto enthusiasts have always pitched it as a way around the traditional methods of social construction of money. Crypto is unregulated money, censorship-resistant money, money whose value is not subject to the whims of a central bank. These claims are not always true in practice — as crypto has become more valuable and more integrated with the mainstream financial system, it has become more subject to the same sorts of regulation — but they do highlight how the traditional system works. “Money is only useful if the government lets you use it” is now a thing that a lot of people believe, though often with the corollary “but Bitcoin fixes that.”
As of Friday Russia had about $630 billion of foreign currency reserves, a large cushion designed to allow it to withstand economic sanctions and prop up the value of the ruble. But “foreign currency reserves” are not an objective fact; they are mostly a series of entries on lists maintained by foreign-currency issuers and intermediaries (central banks, correspondent banks, sovereign bond issuers, brokerages). 1 If those people cross you off the list, or put an asterisk next to your entry freezing your funds, then you can’t use those funds anymore.
And so over the weekend the U.S., the European Union, the U.K., Switzerland, Singapore and other countries announced harsh sanctions against Russia for its unprovoked invasion of Ukraine. There are a lot of these sanctions — banning Russian flights through European airspace, limiting Russian banks’ access to the SWIFT interbank messaging system, etc. — but the most drastic might be U.S., U.K. and EU bans on any transactions with the Russian central bank. The bulk of Russia’s foreign reserves are held in the form of securities, deposits at other central banks and deposits at foreign commercial banks. A ban on transactions with Russia’s central bank means that it can’t sell those securities or access those deposits. Its foreign currency reserves turned out to be mostly useless. Adam Tooze writes:
The crucial thing is that reserves of euros and dollars can be put to work only by selling them in western financial markets. Those transactions require intermediary banks. And those banks can be blocked from engaging in transactions involving Russia’s central bank. To do this to a fellow central bank involves breaking the assumption of sovereign equality and the common interest in upholding the rights to property. It is a major step not easily taken against a central bank as important and as much part of the Western networks as the central bank of Russia.
Russia’s foreign reserves consist, in the first instance, of a set of accounting entries. But in a crisis the accounting entries don’t matter at all. All that matters are relationships, and if your relationships get bad enough then the money is as good as gone.
There is a lot to dislike, or at least to be uncomfortable with, in this situation. There are the Bitcoiners’ complaints: Financial transactions are a private matter, letting authorities interfere with them is bad for freedom, dictators (or democracies) can arbitrarily cut off money to people they dislike, etc. But there are also more specific complaints about “weaponizing the dollar”: The U.S.-dollar-based international financial system, and the international financial system broadly, is an extremely valuable engine for global prosperity because people basically trust it to be reliable and neutral and rules-based; they trust that a dollar in a bank is usable and fungible, that the dollar system protects property rights. 2 “Money is a social construct,” sure, in the back of everyone’s mind, but it is a well-constructed construct, one that works. Making the Russian central bank’s money disappear undermines that valuable trust. This is arguably bad for the dollar’s long-run dominance: Russia will develop its own ways around SWIFT, China will push other countries to adopt its digital yuan, everyone will use Bitcoin, etc. But it is also arguably bad for global prosperity: Trustworthy rules-based trade works better and produces more value than arbitrary uncertain trade.
But what I want to suggest is that this weekend’s actions are evidence that the basic structure is good. What I want to suggest is that society is good, that it is good for people (and countries) to exist in a web of relationships in which their counterparties can judge their actions and punish bad actions. If money is socially constructed and property is contingent then money is a continuing, dynamic, ever-at-risk reward for prosocial behavior. I have in the past quoted J.W. Mason on money as a social scorecard:
In the classroom, one of the ways I suggest students think about money is as a kind of social scorecard. You did something good — made something somebody wanted, let somebody else use something you own, went to work and did everything the boss told you? Good for you, you get a cookie. Or more precisely, you get a credit, in both senses, in the personal record kept for you at a bank. Now you want something for yourself? OK, but that is going to be subtracted from the running total of how much you’ve done for the rest for us.
People get very excited about China’s social credit system, a sort of generalization of the “permanent record” we use to intimidate schoolchildren. And ok, it does sound kind of dystopian. If your rating is too low, you aren’t allowed to fly on a plane. Think about that — a number assigned to every person, adjusted based on somebody’s judgment of your pro-social or anti-social behavior. If your number is too low, you can’t on a plane. If it’s really low, you can’t even get on a bus. Could you imagine a system like that in the US?
Except, of course, that we have exactly this system already. The number is called a bank account. The difference is simply that we have so naturalized the system that “how much money you have” seems like simply a fact about you, rather than a judgment imposed by society.
The judgment of society can, in all sorts of ways, be bad. Pervasive social credit systems seem dystopian, and you would not really want the U.S. government making day-to-day decisions about who deserves to keep their bank accounts. But another idea is that money can insulate you from the obligations of society, and that is also bad. You get a claim on goods and services by being part of society, and having a big number next to your name on a list does not relieve you of your obligations. If you do something so outrageous that society as a whole decides you are a pariah, then money is a way for society to express that.
Similarly there are absolutely ways around the hegemony of the dollar (and the euro, pound, yen, Swiss franc, stock and bond markets, SWIFT, etc.) if you want them. Russia can trade with China using yuan, or digital yuan or whatever; Russia can surely do some business with somebody in Bitcoin. Russia can use Bitcoin or yuan or rubles to buy things from people who (1) want to deal with Russia and (2) are willing to accept Bitcoin or yuan or rubles. The implicit bet of these sanctions is that those people are worse, that the people whom Russia wants to deal with are the ones who trade in dollars or euros or pounds or francs. The bet of these sanctions is that the dollar represents a society — not just the U.S., but a global community of dollar users — and that that society is reflected in both a set of values that abhors the invasion of Ukraine, and in an economic system that other countries want access to, even if those countries do not share those values. It is a bet that economic power and moral values are connected. I’m not sure that that bet is right, but it’s a nice idea.
The most important news today is about Russia’s invasion of Ukraine, and the increasingly brutal attacks that Russia is committing against civilians in its efforts to conquer a sovereign democracy. This is not primarily a financial story, of course, but it is also a financial story, or rather a million financial stories. Here are some:
- Russian sovereign bond prices have collapsed and credit default swaps have blown out: “Russia’s dollar-denominated bonds plummeted on Monday, with its largest — a $7bn bond maturing in 2047 — halving in price to 33 cents on the dollar, a level associated with a high levels of distress.”
- The ruble is also collapsing, Russians are waiting on long lines to withdraw money from banks, and Russia has doubled interest rates, banned foreigners from selling Russian securities and imposed capital controls.
- Disconnecting Russia from the international financial system will impose costs and risks on that system, which are still not clear. Here is a Bloomberg News summary of a Zoltan Poszar note about how “the decision to exclude various Russian lenders from the SWIFT messaging system could result in missed payments and giant overdrafts within the international banking system and spur monetary authorities to reactivate daily operations to supply the market with dollars.” One thing that Russian banks do in the international financial system is remit payments to other banks, and if those payments get shut off then the other banks can quickly run into trouble. This is trouble that can be socialized, though, by central banks supplying dollars to replace the Russian ones.
- Relatedly, “the European Central Bank (ECB) has assessed that Sberbank Europe AG and its two subsidiaries in the banking union, Sberbank d.d. in Croatia and Sberbank banka d.d. in Slovenia, are failing or likely to fail owing to a deterioration of their liquidity situation.” That is sort of the goal of far-reaching economic sanctions: You want some state-owned Russian banks (and their European subsidiaries) to fail. One result of the 2008 crisis and its European aftershocks is that U.S. and European banks are a bit more resilient, and banking supervisors have given a lot more thought to how a bank can fail without taking the broader system down with it.
- “The West is rolling out increasingly tough sanctions on Russia but it is going out of its way to preserve the country’s biggest source of revenue: energy exports.” A perfect sanctions regime might be one that (1) allowed Russia to sell oil and gas that Europe needs, (2) allowed Russia to collect dollars for that oil and gas, but (3) did not allow Russia to spend those dollars or convert them into spendable currency. I don’t think that can quite work — why would Russia keep selling the gas for useless dollars? — but the current package does sort of gesture in that direction.
- BP Plc is moving to divest from state-owned Russian oil company Rosneft PJSC, at a loss of about $25 billion. Now is not, from a financial perspective, a great time to divest from Russian energy companies, but you don’t always get a choice of timing. BP got, as it were, a moral margin call on its Rosneft shares, and now they have to go.
- “JPMorgan Chase & Co. is expected to remove Russian bonds from indexes focused on environmental, social and governance issues later Monday, according to a person familiar with the matter.”
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