The US dollar has been the world’s dominant reserve currency for over seven decades, but current events have raised questions about its future as the primary reserve currency. The US dollar’s position as the world’s reserve currency allows the US government to borrow at lower interest rates than it otherwise would, due to the currency’s perceived stability and the global demand for it. In this blog post, we will explore the factors that have made the US dollar the world’s reserve currency, the challenges it faces, and the potential threats to its position as the primary reserve currency.
The US dollar’s dominance as the world’s reserve currency can be traced back to the Bretton Woods agreement in 1944. The agreement established the US dollar as the international currency, pegged to the price of gold at a fixed rate. This system worked well until the early 1970s, when the US government ended the convertibility of the US dollar into gold. Since then, the US dollar has continued to be the world’s reserve currency, supported by the US economy’s strength and stability.
Challenges
However, the US dollar’s position as the world’s reserve currency is not without its challenges. One of the biggest challenges is the US government’s significant and growing debt. As of 2021, the US national debt is over $28 trillion, and it is projected to continue to rise. This level of debt, combined with the US government’s budget deficit, raises concerns about the long-term stability of the US dollar.
Rise of Alternative Fin-Tech
Another challenge to the US dollar’s reserve currency status is the increasing use of digital currencies, such as Bitcoin and Ethereum. These digital currencies operate outside of traditional financial systems and could potentially challenge the dominance of the US dollar as the world’s reserve currency. Some countries, such as China, have already started experimenting with digital currencies, which could allow them to bypass the US dollar in international trade.
Political Risk
Finally, geopolitical tensions and the US government’s foreign policy decisions could also threaten the US dollar’s reserve currency status. For example, US sanctions against countries like Iran and Russia have led these countries to explore alternative payment systems that bypass the US dollar. Foreign powers have viewed the US’s freezing and seizure of Russian oligarch’s bank accounts and the removal of Russian usage in the SWIFT system a weaponization of the US Dollar. For many foreign US dollar holders, seeing the American government essentially steal the money of currency holders abroad has made them question the security of their own holdings.
Thoughts on the situation
Doomsayers have been pushing investors to buy precious metals and flock to hard assets in the anticipation that a departure from the US Dollar will cause a hyperinflation in the United States or a sudden crash in the value of their USD holdings to zero. In reality, the USD has entrenched itself as a very important aspect of the global monetary system. The sheer convenience of the SWIFT system and a currency backed by the world’s strongest military has made the USD the most reliable form of value transfer for the world. In fact – as of 2019, world settlements in US Dollars topped 88% of all global settlements The Fed – The International Role of the U.S. Dollar (federalreserve.gov). That means in each trade transaction around the world – the other side of the trade was US dollars in 88% of those transactions.
That means in each trade transaction around the world – the other side of the trade was US dollars in 88% of those transactions.
The Fed – The International Role of the U.S. Dollar (federalreserve.gov)
The US dollar is very much heavily entrenched in global trade and any kind of departure from it in the global monetary system would be a slow process rather than an overnight collapse like may doomsayers tend to believe. The reality is that within the Eurodollar system (AKA the US dollar denominated deposits held in foreign banks) the US dollar is still a much bigger player than it is even within the United States itself. A business owner in Chile who wants to start a business and trade internationally is likely raising capital and taking on debt in US dollar denominated debt – rather than in his domestic Chilean Peso.
Conclusion
In conclusion, the US dollar’s position as the world’s reserve currency is facing several challenges that could threaten its dominance. The US government’s significant debt and budget deficit, the rise of digital currencies, and geopolitical tensions are all factors that could potentially undermine the US dollar’s position as the primary reserve currency. It remains to be seen how these factors will play out, but one thing is clear: the US dollar’s future as the world’s reserve currency is not guaranteed, and the world may be heading towards a multipolar currency system. Either way, the process to being no longer accepted as world reserve currency would not be sudden, and likely would be preceded by major conflict, or a period of time for events to unfold geopolitically.
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This blog post was prepared by Dustin Wong in my own personal capacity. The opinions expressed in this video are my own and do not reflect the view of Booked Financial LLC.