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BRICS and stones: Should an emerging alliance worry the US?

March 28, 2013

| MoneyRates.com Senior Financial Analyst, CFA

Leaders of Brazil, Russia, India, China and South Africa, collectively known as the "BRICS" nations, met at a financial summit in South Africa this week to discuss the formation of a global bank to act as an alternative to the traditional institutions dominated by North American and Western European countries.

Only time will tell whether that alternative turns out to be a rival or a partner in nurturing worldwide development and financial stability.

A modest proposal… so far

The summit was a meeting of heavyweights that produced only modest results for the time being. The nations involved represent about 40 percent of the world's population and 20 percent of global GDP. The priority these nations place on exploring economic cooperation can be seen by the level of the attendees, which featured the president or prime minister of each nation, including Russian President Vladimir Putin and Chinese President Xi Jinping.

Despite all the political and financial firepower present at the summit, it produced no breakthrough announcement. The BRICS nations did decide to enter into negotiations on the formation of a development bank controlled by the five nations, but the actual formation of such an institution would require an unprecedented level of cooperation among nations that historically have been fiercely independent. The proposal is, however, an intriguing possibility.

Competition for the dollar and the euro?

The potential for financial cooperation among these nations could have an immense impact. By making a new source of funding available to developing nations, it could accelerate economic growth. In turn, creating a new source of money supply could introduce a new force for global economic stability.

On the other hand, the possible impact of a BRICS-dominated global financial institution is not all positive. By funding development, the BRICS nations would be angling for the inside track on supplies of natural resources and trading arrangements from emerging economies, which would be in direct competition with European and U.S. interests for those relationships.

Also, one long-running speculation has been that the BRICS nations ultimately want to form their own currency as an alternative to the U.S. dollar and the euro. This could reduce demand for the dollar as a reserve currency, which could lower the dollar's value relative to other currencies. A strong currency is a double-edged sword -- it makes imports cheaper but makes a nation less competitive on an export basis. Also, a weaker dollar would somewhat tie the Federal Reserve's hands on policy decisions, such as the current low-interest-rate approach.

It's possible that with stronger currency competition, the U.S. would have to offer higher interest rates to support the dollar. Depositors in savings accounts, CDs and money market accounts might love that outcome, but if it came about too suddenly it could be very disruptive to the economy.

Fortunately, multi-national financial cooperation is too complicated to come about quickly. For now, the BRICS summit is primarily a reminder that the future may be very different from today's world.

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