The almighty US dollar may lose its luster as a global currency


But, to paraphrase Mark Twain, reports of the dollar’s premature demise are greatly exaggerated. The greenback’s recent weakness is due to short-term cyclical factors. In the long run, the situation is more complicated: the dollar has both strengths and weaknesses that may or may not undermine its global position over time.

The main negative factor in the short term is the Fed’s ultra-accommodative monetary policy. With the United States monetizing growing budget deficits, the Fed’s approach appears more accommodating than that of most other major central banks.

The dollar tends to weaken during episodes of risk, and vice versa. This is why its value peaked during the February-March panic over covid-19, then weakened from April as market sentiment recovered. In addition, the Fed’s activation of currency swap lines with other central banks reduced the illiquidity of the dollar that had pushed the exchange rate up at the start of the crisis. Today, a flood of global dollars is putting downward pressure on the greenback.

In addition, some developed countries (in Europe and elsewhere) and some emerging markets (such as China and others in Asia) are much more successful in containing covid-19 than the United States, implying that their economic recovery could prove to be more resistant. Public health failures and related economic vulnerabilities in the United States thus further contribute to the weak dollar.

It should also be reiterated that before the pandemic, the dollar had appreciated by more than 30% in nominal and real terms (adjusted for inflation) since 2011. Given the yawning external deficit of the United States, and because that the interest rates are not high enough to finance it with capital. influx of capital, a depreciation of the dollar was necessary to restore the trade competitiveness of the United States. And the United States is turning to protectionism to signal that it prefers a weaker dollar to restore external competitiveness.

Even in the short term, the dollar could easily strengthen again if, as the latest global growth data suggests, a V-shaped recovery turns into an anemic U-shaped recovery, let alone a double dip. if the first pandemic wave is not controlled and a second wave kills the recovery before effective vaccines are found.

In the medium and long term, multiple factors could preserve the global dominance of the greenback. The dollar will continue to benefit from a widespread system of flexible exchange rates, limited capital controls and deep and liquid bond markets. There is simply no clear alternative currency that could serve as a broad unit of account, a means of payment and a stable store of value.

Moreover, despite its pandemic difficulties, the United States’ potential annual growth rate of around 2% is higher than in most other advanced economies, where it is closer to 1%. The U.S. economy also remains vibrant and competitive in many leading industries, such as technology, biotechnology, pharmaceuticals, healthcare, and advanced financial services, which will continue to attract capital inflows from the United States. ‘foreigner.

Any country vying for the US position should consider whether it really wants to end up with a strong currency and the large current account deficits associated with meeting global demand for safe assets (government bonds). This scenario seems unattractive for Europe, Japan or China, where strong exports are at the heart of economic growth. Under the current circumstances, the United States is likely to retain its “exorbitant privilege” as a safe, long-term debt issuer that private and public investors want in their portfolios.

The question, then, is what factors could undermine the dollar’s global position over time. First, if the United States continues to monetize large budget deficits, thereby fueling large external deficits, a surge in inflation could possibly depreciate the dollar and weaken its appeal as a reserve currency. Given the current makeup of US economic policies, this is a growing risk.

Another risk is the loss of US geopolitical hegemony, which is one of the main reasons so many countries use the dollar in the first place. There is nothing new about the hegemonic currency being the world’s reserve currency. This was the case with Spain in the 16th century, the Dutch in the 17th century, France in the 18th century and Great Britain in the 19th century. If the next few decades bring what many have already called the “Chinese Century,” the dollar may well fade as the renminbi rises.

The militarization of the dollar through trade, financial and technological sanctions could accelerate the transition. Even if US voters elect a new president in November, such policies are likely to continue, as the Cold War between the US and China is a long-term trend, and US strategic rivals (China and Russia) and their allies are already diversifying. from dollar assets that can be sanctioned or seized.

At the same time, China has introduced more flexibility in its own exchange rate, gradually relaxed some capital controls, and created deeper debt markets. He convinced more trading and investment partners to use the renminbi as a unit of account, a means of payment and a store of value, including in foreign exchange reserves. He is building an alternative to the West-led Company for Global Interbank Financial Telecommunications (Swift) system and is working on a digital renminbi that could eventually be internationalized. Its own tech giants are creating huge e-commerce and digital payment platforms (Alipay and WeChat Pay) that other countries could adopt in their own local currencies.

So while the dollar’s position is secure for now, it will face significant challenges in the years and decades to come. It is true that neither the Chinese economic system (state capitalism with financial control) nor its technocratic authoritarian political regime has much appeal in the West. But the Chinese model has already become very attractive to many emerging markets and less democratic countries. Over time, as China’s economic, financial, technological, and geopolitical might expands, its currency could make inroads into many other parts of the world. © 2020 Project Syndicate.

Nouriel Roubini is Professor of Economics at the Stern School of Business at New York University

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