Why the dollar is the world’s number one currency
Sep 28, 2021
iCrowdMarketing powered by iCrowdNewswire
Since the conclusion of World War II, the dollar has become the most significant currency in the world. This is also the largest and most widely held reserve currency as well as the most commonly utilized currency for transactions in international commerce and other areas across the globe. The importance of the dollar in the world economy offers advantages to people in the United States, including borrowing money overseas more easily and expanding the scope of U.S. financial sanctions.
However, some experts believe that the dominance of the dollar has a price. An increase in foreign demand of U.S. bonds bids up the value of the dollar, making U.S. exports less competitive which results in unemployment and trade deficits. Additionally, the role played by the dollar in numerous international transactions places an obligation on the U.S. Federal Reserve to serve as an international lending institution of last resort in economic downturns, such as those caused by the coronavirus outbreak. In spite of the doubts about the power of the dollar, however, many experts believe it's unlikely that anything will replace the dollar as the most popular reserve currency anytime in the near future.
By purchasing and selling currencies through the market central banks are able to influence the value of their country's currency, which could help to stabilize the market and increase the confidence of investors. For instance in the event that it is noticed that the price of Brazilian real starts to decrease in the midst of a recession then the Central Bank of Brazil can intervene and draw on its reserves of foreign currency to boost the value of the Brazilian real. In contrast, other countries may intervene to prevent their currencies from depreciating and also make exports more affordable.
The majority of countries prefer to keep the reserves they have in an international currency that is backed by wide and accessible financial markets because they wish to ensure that they will have access to their reserves in times of need. Central banks usually have money in the form of government bonds, like the U.S. Treasuries. This U.S. Treasury market remains by far the biggest and most liquid, making it the easiest to invest in and then sell out of.
The International Monetary Fund (IMF) is the institution that is responsible for regulating the international financial system, has eight important reserve currencies: the Australian dollar as well as the British sterling pound and the Canadian dollar and the Chinese renminbi and the euro, as well as the Japanese yen and the Swiss franc along with the U.S. dollar. This is because the U.S. dollar is by far the most widely used reserve currency, accounting for 60% of the world's reserves of foreign exchange.
What made the U.S. dollar the world's top reserve currency?
The dollar's position as the reserve currency of the world was established in the aftermath of World War II by the 1944 Bretton Woods Conference, in which 44 countries ratified the establishment and establishment of the IMF as well as the World Bank. However, many claim that the influence of the USD has not always been that dominant. Several economists expressed their opinion that the dollar had surpassed the British pound as the world's reserve currency during the 1920s.) In Bretton Woods, a system of exchange rates was developed in which each country was able to set the value of their currencies to the dollar. The dollar itself could be converted to gold at a rate of $35 for an ounce.
In the 1960s, however, it was apparent that the United States did not have enough gold to pay for dollars circulated outside within the United States, leading to concerns of a possible run that could erase U.S. gold reserves. In the wake of failed attempts in order to salvage the system, president Richard Nixon suspended the dollar's conversion to gold in August 1971. This marked the start of the ending to the Bretton Woods exchange system. It was the Smithsonian Agreement, struck a couple of months later by ten of the most advanced nations, that sought to save the system by decreasing the value of the dollar and permitting exchange rates to change more, however it was not long-lasting. In 1973, the current system of exchange rates that were mostly floating had been in effect. Many countries continue to control their exchange rates by permitting them to fluctuate within a specific range, or by peg an amount of currency in relation to other currencies, such as the dollar.
Yet in the meantime, it is true that the U.S. dollar remains king. Apart from making up the majority of reserve reserves around the world, it is also the most popular currency in international commerce. The most important commodities, like oil, are mostly purchased and sold with U.S. dollars. Certain countries, such as Saudi Arabia, still peg their currencies to dollars.
Factors that support the dominance of the dollar are its steady value and the magnitude of the U.S. economy, and the United States' geopolitical heft. Additionally, the United States is the only country to have a marketplace for their debt similar to that of the United States, which is estimated to be around $18 trillion.
Are there alternatives to the dollar?
The economic turmoil caused by the coronavirus epidemic has raised worries about the demise of the value of dollars as the main reserve currency. Many experts are concerned they could see the U.S. government's massive stimulus spending, which is adding to a pile of debt coupled with the nation's inability to stop this virus's spread, could trigger an ebb of confidence with respect to the greenback.
But previous predictions about the demise of the dollar, particularly following the crisis in 2008 haven't come true. As economics expert Barry Eichengreen explains in his book Exorbitant Privilege, this is a testimony to both the advantages that the dollar has as the most popular reserve currency and also the absence of viable alternatives. The dominance of the dollar in both trade and finance is what makes it the most desirable currency for nations to have and is therefore hard to replace.
Additionally, the most frequently discussed alternatives, such as the euro, Renminbi, and Special Drawing Rights of the IMF have specific issues.
Euro is the second-highest frequently used reserve currency. It accounts for around 20 percent of all global reserves of foreign exchange. The European Union rivals the United States in terms of economic size and exports more. It also has a robust central bank as well as robust financial markets. These are factors that make its currency an attractive alternative against the US dollar. However, the absence of a single Treasury and a single European bond market restricts its value for use as an investment currency as per Setser.
China is eager to enjoy the prestige and advantages that come with the issue of the world's reserve currency is trying to expand the importance of the renminbi often referred to by the name yuan. It is currently just 2 percent of all reserves. The efforts of China are stymied by tight control of the flow of money throughout its economy, however, the global use of the renminbi is ever increasing. China is trying to expand the use of the renminbi as a currency to be used to denote its own trading.