Is the US dollar’s dominance under threat?


Money is a unit of account. People normally set prices and write contracts that specify payments in dollars rather than in units of, say, Tesla stock. Similarly, many (although by no means all) international prices and contracts are set in US dollars.

Finally, money has to be a reasonably stable store of value — a place you can park your wealth for a while without much risk that it will suddenly lose most of its purchasing power.

Cryptocurrency enthusiasts believe they may dethrone the dollar one day. Credit:Getty

What’s somewhat distinctive about international currencies is that they play these roles for governments — which intervene in currency markets, sometimes peg the values of their currencies to someone else’s money and hold stocks of foreign exchange — as well as the private sector.

To some extent, the dollar’s dominance is locked in because these roles are self-reinforcing. It’s easier to do transactions in dollars than in other currencies because so many other people use dollars, and the ease of transactions is one reason so many people use dollars. As the great Charles Kindleberger pointed out, the dollar’s role as an international currency is quite a lot like the role of English as an international language.

So is there anything happening in the world that would plausibly dethrone the dollar from its leading position? Bear in mind that while the dollar’s dominance is partly caused by self-reinforcement, it also rests on some fundamentals: America has a huge economy with a huge, sophisticated capital market and usually doesn’t have the kind of capital controls that might leave people unable to access their funds at will.

These fundamentals immediately rule out the yuan as an alternative to the dollar, because China does have capital controls and seems unlikely to give them up anytime soon. Furthermore, while it’s true that dictators have some reason to fear that America might impound their assets if they invade a neighbour or decide to kill a bunch of their subjects, private investors have much more reason to fear arbitrary actions from an authoritarian regime that doesn’t believe in the rule of law.

Dollar dominance sounds important if you haven’t thought about it much, but much less so if you have. In fact, in general, the more you know about international currencies, the less important you think they are.

For a while, it looked as if the euro might become a serious rival to the dollar; the euro area economy is comparable to ours in size and sophistication. But since 2010, European capital markets have been somewhat fragmented, with, for example, Italian bonds trading at a discount to German bonds. So a euro challenge to the dollar has been postponed, perhaps indefinitely.

What is true, as Barry Eichengreen and his colleagues have pointed out, is that central banks have been diversifying their currency holdings — not into potential dollar rivals but into smaller currencies.

This is an interesting development, and it would be worth trying to figure out why it’s happening, but it’s hardly earth-shattering. Dollar dominance sounds important if you haven’t thought about it much, but much less so if you have. In fact, in general, the more you know about international currencies, the less important you think they are.

For example, I fairly often encounter statements to the effect that the global role of the dollar gives America a unique ability to run persistent trade deficits. Tell that to the Australians, who have been doing that just fine.

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Oh, and I’ve heard some amazing conspiracy theories over time — like the claim that we invaded Iraq because Saddam Hussein was planning to stop pricing his oil in dollars. Sorry, but no.

It’s true that the dollar’s special role probably lets America borrow a bit more cheaply than it could otherwise, and we in effect get a zero-interest loan from the large quantity of US paper currency — mainly $US100 bills — held outside the country, much of it for nefarious purposes. But these advantages are ultimately trivial for what is, after all, a $US26 trillion ($38 trillion) economy.

So, no, the dollar’s dominance isn’t under threat. And even if it were, it wouldn’t be a big deal.

This article originally appeared in The New York Times.

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