Dollar Preeminence Among Reserve Currencies Not in Urgent Danger
June 5, 2017
In the wake of the Second World War, the dollar replaced sterling as the most widely favored reserve currency. A reserve currency has to be trusted as a store of value, denomination for invoicing payments, and currency in which to conduct trade and do financial transactions. Governments and international organizations have great needs for reserve currencies, and the United States economy by virtue of the dollar’s top ranking among reserve assets enjoys enormous intrinsic advantages such as the ability to issue debt abroad denominated in one’s own currency.
The dollar’s hegemony as a reserve asset has never been challenged seriously not when the U.S. abandoned dollar-to-gold convertibility in 1971, not when Nixon ended fixed exchange rates in 1973, not when U.S. inflation spiked above 10%, and not when high inflation and chronic balance of payments deficits conspired to depreciate the dollar’s external value in the 1970s and other subsequent episodes. It didn’t even happen when some foreign-owned bank accounts in the United States were frozen for geopolitical reasons, or at times of rapid growth in outstanding U.S. government debt, nor during domestic political crises like Watergate and the contested election of 2000 that was decided eventually by Supreme Court decision.
Prior to the election of Donald Trump, expert answers to the question of when the dollar might relinquish its top ranking as a reserve currency elicited answers framed in decades and generations, rather than years. Unlike the dollar, rival national currencies like the euro, yen, yuan or electronic mediums all have big shortcomings in one or more of the desired properties sought in a reserve currency. The dollar is backed by deep, transparent, and highly liquid U.S. domestic capital markets. For many years now, U.S. inflation has been neither too excessively low nor too high, and it has been comparatively stable and predictable. The U.S. economy weathered the Great Recession better than Europe or Japan. U.S. demographics are relatively favorable. The dollar is freely convertible into other national monies, and restrictions on capital entering or exiting the U.S. are few.
The U.S. political landscape had been stable, and the rule of law took precedent over the arbitrary decrees of a single ruler. National fiscal and monetary policy are not mismatched, and firewalls exist that have protected monetary policy from excessive political influence. The U.S. led the world in education for a century starting in 1870, and it’s been a leading innovator of new technologies and industrial organization. It makes sense for the currency of the western world’s political leader and most developed military power to be the reserve currency of the world. And America over seven decades took the lead in coordinating policy via its roles in the U.N., Nato, the IMF, World Bank, and WTO to name a few examples.
President Trump has kicked many of the above pillars of dollar trust on their side. So far, however, that which has changed falls far short of what the president threatens to undo. Trump alone is but one steward in a 225+ year story that’s still unfolding, and it is likely to be ten or more years before the full significance of the 2016 American Revolution is understood. Judging by mainstream foreign press and comments from officials in heretofore allies of the United States, a theme has gained a foothold that Trump’s agenda is making America great no more, but transitioning from such concern now to a broad recognition that the prophesy is indeed spot on will take a long time.
Before concrete action occurs that strip the dollar from being the paramount reserve asset, a great deal more evidence has to surface. It will need to in fact include a substantial depreciation of the dollar, which isn’t happening. On the contrary, the dollar is substantially above its one-year moving averages against the yen and sterling and not far from its one-year moving averages against other major traded monies. No immediate alternatives among the other potential reserve currencies exist, and the current drawbacks afflicting the short list of potential rival reserve currencies aren’t getting removed.
Copyright 2017, Larry Greenberg. All rights reserved. No secondary distribution without express permission.
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