The Status of the Dollar
In the past year, the US dollar showed significant strength against other currencies mainly due to the Fed’s tightening policies which lured investors seeking to capitalize on the historic US Treasury yield. In a quick look across global government treasuries, one can note that many other governments offer higher yield than the U.S.: even twice as high but no other currency enjoys the global supremacy the dollar has.
The US dollar’s status as the world’s reserve currency refers to its widespread use as a store of value by central banks and other financial institutions. This means that countries around the world hold large quantities of US dollars as a means of conducting international transactions, stabilizing their own currencies, and protecting against financial instability.
Following World War II, the US dollar quickly rose to dominance due to several factors such as: the establishment of the Bretton Woods Agreement, the strength of the US economy, the establishment of the IMF, and the essential part the U.S. navy has since then in protecting global maritime trade.
The king of currencies
First and foremost, The US is the world’s largest consumer market. This means that businesses and countries that want to trade with the US need to use dollars, which drives up demand for the currency. Additionally, many commodities, such as oil and gold, are priced in dollars; therefore, countries that rely on these commodities need to hold dollars to pay for them. As a result, the demand for dollars remains high, and this helps to maintain the dollar’s status as the world’s reserve currency.
The US has the largest economy in the world, with a GDP of over $21 trillion. The size and strength of the US economy also gives the dollar a level of stability other currencies cannot match. This stability is essential for central banks and other financial institutions which need to hold large amounts of currency as a store of value.
The US government has historically been committed to maintaining the dollar’s position as the world’s reserve currency. This commitment is reflected in various policies and agreements, such as the Bretton Woods Agreement of 1944, which established the dollar as the world’s reserve currency. The US government also works to maintain the stability of the dollar by managing inflation and promoting economic growth.
The US dollar’s status as the world’s reserve currency also means that countries that hold large amounts of US dollars are vulnerable to fluctuations in the value of the currency. If the value of the dollar were to decrease significantly, countries that hold large amounts of dollars could experience significant losses. As a result, maintaining a stable dollar became a mutually beneficial goal; a clear example was that emerging economies mutually benefitted from the stability of the US dollar from the 1970s onward.
American Muscle
The dollar’s new status led the US to hold significant power and influence over the global financial system, in which the US has been able to leverage its currency to influence the global economy and use its financial power to impose sanctions on other countries. This has led to criticism of the US’s role in the global financial system, with some arguing that it gives the US an unfair advantage over other countries.
Additionally, the dollar’s status as the world’s reserve currency gives the US certain advantages in terms of borrowing and spending. Since the US can print its own currency, it can borrow money at lower interest rates than other countries. This allows the US to fund its deficit spending, maintaining its global military and economic influence. However, this also means that the US has a large national debt, which could potentially lead to financial instability in the future.
BRICS
Although economists used this term for over 20 years, it was only 15 years ago that the countries of Brazil, Russia, India, and China began somehow cooperating before South Africa joined later. According to the International Monetary Fund data, BRICS has approximately 41.5% of the global population, 25% World’s total economic output and combined GDP of $25 Trillion, which eclipses even the United States. Albeit, China is the major economy in the group, with two times the economic output of all other members combined.
The group shown a commitment to strengthening their collaboration in various areas, fostering mutual understanding, and promoting common interest. Economically, BRICS countries have worked together to enhance trade and investment ties. They have established the New Development Bank (NDB) and the Contingent Reserve Arrangement (CRA), providing financial support and stability to member countries. Additionally, they have explored initiatives like the BRICS Business Council and the BRICS Trade Fair to promote business opportunities and partnerships. The group also called for establishing a new currency to facilitate trade between its members (and to ditch the dollar altogether)
That said, BRICS is not an economic union but rather a cooperation group that promotes common interests without integrating systems or creating a single market both of which are essential components to create a common currency. In addition, there’s an uneasy relationship between its two members who happen to be the two most populous countries in the world; India and China. Therefore, it can be concluded that BRICS is a group of convenience used by its members as a leverage to secure favorable terms with the west.
“Russia’s foreign reserve of the Chinese Yuan jumped from 1% prior to the war to almost 40%” (Shen, 2022)
For instance, The Russian central bank focus on using the Yuan as a reserve currency was a result of the toughest economic sanctions since WWII not because a roadmap plan to ditch the dollar
EU Zone
When launched in 2000, many expected the currency to rise quickly to rival the U.S. dollar, considering that the EU had the backing of 2 of the G7 countries, Germany, and France along with the rest of the EU countries. In other words, it has similar characteristics to the US economy except for unified fiscal policy which slowly led to what has become known as the “Greek debit crisis” in 2008. Since then, the EU did has not fully recovered.
The Current Era
Yuan international trade jumped to 4.5% from 1% in 2021 according to SWIFT while the U.S. dollar makes about 85% (Jindong Zhang, 2023)
As of 2021, International Monetary Fund (IMF) data showed that 60% of global foreign exchange reserve was held in US dollars, followed by Euro with around 20% of global foreign exchange reserves held in euros. The Japanese yen, British pound, and Swiss franc also make up a significant portion of global foreign exchange reserves.
By the end of 2022, IMF data showed that the U.S. Dollar shared dropped slightly to 58.4%, followed by the Euro with 20.5%, while China’s Renminbi remains at a similar level with the Canadian dollar with 2.7% and 2.4% respectively.
Overall, on both near term and mid-term there’s no viable alternative to the dollar as a trade medium or reserve currency however, the future is unpredictable especially when or self-damage we can reflect
“Never underestimate the power of stupid people in large groups.”
― George Carlin
Disclaimer: The information contained in this report does not purport to be complete description of the securities, markets, or developments referred to in this material. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. Any opinions are those of the author, and not necessarily those of Raymond James. Expressions of opinion are as of this date and are subject to change without notice.
Works Cited
Jindong Zhang, W. Z. (2023, April). Yuan overtakes dollar to become most-used currency in China’s cross-border transactions. Retrieved from Reuters: https://www.reuters.com/markets/currencies/yuan-overtakes-dollar-become-most-used-currency-chinas-cross-border-transactions-2023-04-26/
Shen, E. F. (2022, 11). The yuan’s the new dollar as Russia rides to the redback. Retrieved from Reuters: https://www.reuters.com/markets/currencies/yuans-new-dollar-russia-rides-redback-2022-11-28/