Daily Management Review

Is it possible to shake the dollar’s positions?


The dollar has been the main world currency for more than 50 years. But experts do not exclude that his positions may weaken. What and who can deprive the dollar of its current status?

If a currency’s stability is directly related to trust in the issuer, then the US dollar position is not the best now. Donald Trump is fighting with the rest of the world and is attacking Russia and Turkey in the midst of the trade war with China. However, they are ready to fight back. They are trying to inflict pain on the US, are questioning the US’s leading role as a world power and shattering the status of the dollar.

According to the International Monetary Fund (IMF), about 62 percent of all foreign exchange reserves in the world are stored in dollars. For comparison: about 20 percent of foreign exchange reserves are held in the euro, followed by the Japanese yen and the British pound with less than five percent.

The dollar also dominates in the exchange of currencies: over 85 percent of all exchange transactions are made between the dollar and some other currency.

The US Federal Reserve System (FRS) has always contributed to the global dominance of the dollar and provided it with sufficient liquidity. Not least because of this, the leading role of the US currency has long been supported by itself.

A safe haven for investors

And it was the dollar’s liquidity that turned the currency into a safe haven for investors - after all, the dollar can always be sold again. Sometimes it can lead to grotesque situations: for example, when investors (mainly central banks and large companies, start to feel that something is wrong, they transfer assets into dollars even when the main source of threats to the world economy is the US. So it was during the last financial crisis, and it happens every time when the US Congress is arguing about introduction of a ceiling for the US national debt.

Economist Barry Eichengreen calls this "exorbitant privilege" of the United States. At the same time, he does not see an alternative to this. The two main rivals of the dollar have serious shortcomings. According to Eichengreen, the euro is a “stateless” currency, and the Chinese yuan is controlled by the Chinese government. In other words, there is no government that would fully assume the task of stabilizing the currency in case of sharp weakening of the euro. As for the yuan, it is completely controlled by China's politicians, not by the market.

The dollar can lose its position

Considering what is happening in US politics and economy, at the moment it is difficult to talk about a controlled situation in the world market. President Trump does not hesitate to blame other countries - not least his monetary competitor China - in manipulating the yuan. At the same time and after a few tweets, he advises his own central bank on how to pursue monetary policy. So far, the Federal Reserve has pursued a consistent and independent course. But from the moment when the White House started giving advice and making demands on the key interest rate, it became unclear whether it would be possible to rely on the political neutrality of the Fed in the future.

The same uncertainty reigns over Trump's economic policy. Too often, his actions contradict each other: on the one hand he declares major trade agreements, on the other hand, he has only left different agreements so far. New agreements that he promised have not been concluded yet. Economic confrontation with China, uncertainty in relations with Russia, the dispute with Turkey, which has ruined the country’s national currency... Indeed, it is difficult to call the dollar a reliable and safe harbor in the present situation.

The question remains: which of the currencies will set the stye in the future? Russia and Turkey announced that they plan to return to settlements in national currencies in international markets and stop using the dollar as an intermediate currency. Perhaps, other countries will follow this example, and this may lead to a decrease in the dominance of the US currency in the global financial market. However, the dollar will remain the strongest currency in the world anyway. At least until the credibility of the US - even in a state of chaos - is be stronger than to countries behind other currencies.

source: dw.de