When we analyze the small amount of time that humans as a power have existed on our planet, the human world has experienced multiple empires emerging, ruling, and being toppled by challenges in the economic world. From the ancient times of world leaders like The Gupta Dynasty in India and The Roman Empire, striding through the illustrious era of the Islamic Golden Age to the tumultuous Rise and Fall of the Colonial Period the world has seen all. The contemporary world has led us to The USA being a formidable World Power. However, an emerging China is now challenging its hegemony. Change at the top has been The Law of Time.
Any economy’s way up to the top has always been by adding more and more money to itself. Currencies themselves these days hold respective values which is all a game of demand and supply. The currency that’s called upon more by the world has more value. So, it would be correct to say any country that has a lot of wealth and its currency is highest in demand shall be a leader in the global economic market.
The United States of America rose as the biggest economic powerhouse after World War 2 and has been the front runner in the economic world since. The leaders of the US did a commendable job in establishing the US Dollar as a commodity needed by every country for international trade which strengthened America’s position in the global world exponentially. Benefits of which America notoriously exploited for more than 3/4th of a century.
In the 21st century, the US dollar’s dominance is being challenged by a new-born economic giant in the east that is People’s Republic of China’s Renminbi – The YUAN. Consequently, the emergence of a challenge termed De-dollarization has emerged.
What is De-dollarization?
De-dollarization is the US Dollar stopping being a dominant reserve currency being used by countries as an intermediary for international trade. Countries all around the world are now opting to be multipolar using other currencies in accordance with what brings more benefits to them. Not an instant one but it’s for sure a great threat to the US dollar.
How did the Dollar rise to such heights?
Then came the next big step –
The Bretton Wood’s Agreement 1944 –
The Bretton Woods Agreement officially known as The Bretton Woods Agreement on Exchange Rates was done between the US and 44 countries in July 1944, at the United Nations Monetary and Financial Conference in Bretton Woods, New Hampshire, USA. This conference played a crucial role in setting up the foundation for present-day monetary institutions like the International Monetary Fund and The World Bank.
The 44 countries agreed to peg their currency to the US dollar. Further, the US dollar was pegged to its gold reserves, thus ultimately making the 44 countries peg their currency with gold. In common words, when other countries agreed to peg their currencies with US dollars that meant they agreed to a fixed exchange rate for a particular amount of US dollars.
Also, the US dollar was pegged at $35 per ounce of gold which was equivalent to 28.35 grams of gold.
What this did was, it saved other countries from fluctuation of other countries’ economies and any trade done and any amount received from any of the 44 countries could be exchanged for gold on a fixed rate with the US.
Further, finally, the dollar was empowered to the next level with the acts of The World Bank and The International Monetary Fund facilitating the devastated countries with huge loans after the Second World War to recover from the economic downturn. As a result, this elevated the influence of the US dollar on other nations.
“And this is how The Dollar ascended to the throne of the World’s Reserve Currency.”
The Intimacy of The US Dollar and OIL
Saudis started with the oil extraction unaware of the impending side effects of The US being involved in the world war. Italy dropped multiple bombs on American-set oil extraction facilities in Saudi Arabia targeting the US. This further created a need for The Arabs to get protection from Americans to rise to its utmost potential of oil extraction which led to heightened reliance on the US.
How dollar gained power with this?
A strong demand for dollars came into existence as every nation needed dollars to purchase oil.
- This increased the dollar to be a reserve currency for nations for any future transactions for oil purchases.
- This made the US dollar a standard currency, which as a snowball effect led to The US Dollar being accepted for other trade purposes worldwide.
- Also, excess accumulation of The US dollar led to reinvestment of the same in the US economy like in US Treasury Bonds, which further strengthened America economically.
- This gave America an unsaid but true political and economic influence on global affairs. This made other countries desiring or not to maintain close relationships with the US for easy access to the oil market.
- Also, a scenario that favoured the US was because most of the nations were needing more and more dollars as reserved, the US started getting discounts in trade with other countries, double benefiting America.
Consequently, The United States of America has been notoriously exploiting that influence which is some other history. But surely this deal propelled the US dollar granting an unparalleled power over other currencies.
Could the ride to the top be that smooth?
By 1970, loads of gold reserves accumulated by The US were depleted. The US could not support the exchange of dollars for gold at a fixed price, which led to the collapse of The Bretton Woods system. From 22000 tonnes of gold reserves, the US’s treasury fell to 10,000 tonnes. The then president of the USA Richard Nixon announced a temporary suspension of the exchange of gold for US dollars in 1973.
Supreme in currencies – The US dollar
Why?
Incoming of The SWIFT Network –
The European Union and the United States of America came up with SWIFT – Society for Worldwide Interbank Financial Telecommunication. One of the coolest moves by the USA showcasing its brainpower to ScaleUP!
What does this have to do with the position of the US dollar?
The answer to this is how this network works.
The SWIFT network requires majorly four entities or four banks. Let’s take the example of India and Russia. If the Indian government needs to make an x amount of payment for an arms deal with the Russian government. When an individual needs to send money internationally to some other country, it must go through a SWIFT network that is operated by banks in the USA. The sender first requests his parent bank in his own country to make x amount of payment to the receiver’s bank in his own country. Here the intermediary are two banks that happen to be in the USA. The sender’s Indian bank sends a message to its Indian bank in America, which further sends a message to release x amount of payment to Russia’s bank in America. Russia’s American bank then releases x amount of money to the receiver’s bank in Russia.
The catch here is that almost all the countries use the SWIFT network as SWIFT is used by more than 11000 banking institutions all around the world. That is how deep The Dependence on Dollar has its roots. So, this gives the USA the power to cut off or limit access to both the SWIFT network and dollar reserves in central banks of respective countries set in the USA. This makes it a no-sweat scenario for the USA and the European Union to isolate a country from global trade and also puts the other countries an at unfair advantage of not being able to trade conveniently with the isolated country. According to the International Monetary Fund’s 2022 report, more than 60% of the world’s Forex Reserves were in USD.
The SWIFT Network at present equips the USA and EU with avenues for exploitative misuse of this control over this interbank financial system, instances of which have been economic sanctions put by The United States of America on multiple occasions on countries like Iran, North Korea and recently Russia which got its $300 billion freeze in name of sanctions in the USA as an outcome of the Russia-Ukraine war that started towards the end of February 2022.
All this power concentrated in The United States AND The European Union becomes a compelling reason for economies to increasingly lean towards Dedollarization.
NOW, does a Worthy contender exist that can replace the dollar and is the prospect of De-Dollarization in any way attainable?
Threat 1 – Renminbi (The Chinese Yuan)
The Chinese economy today stands at a humongous sum of $19.373 trillion which is second largest in the world in comparison to the top lister The United States which would be at $26 trillion by the end of 2023.
As China is growing economically, simultaneously it has been slowly cutting off ties with the all-time safe, resilient, and stable king – The US dollar.
Can the Renminbi achieve the stature of replacing the US dollar, and what essential elements must it possess to attain a similar level of global influence as The US dollar?
There are multiple factors and blank columns that China needs to fulfil to make the Renminbi – A Superpower in the world of Currencies.
The Chinese Yuan is far from being acknowledged as a fully convertible currency at the international level despite of Chinese government’s tremendous efforts to make it one. A fully convertible currency can be freely bought and sold for trade in international markets free from any kind of sanctions or restrictions to be exchanged in the foreign exchange market. This power is enjoyed by a select few like The US dollar (USD), The Japanese Yen (JPY), The Euro (EUR), The Swiss Franc (CHF), The Canadian Dollar (CAD), The Australian Dollar (AUD), or The British Pound Sterling (GBP)
Numerous other elements, such as China’s political stability, a fixed exchange rate of The Yuan in the foreign exchange rate market, and the potential for unprecedented policy shifts in Beijing, en masse, underscore the significant risks associated with considering the Renminbi as a potent contender for a global reserve currency. Even the fact is a recent IMF report says, less than 5% of $12 trillion forex reserves held by 195 countries just are in The Yuan due to its poor performance and that shows the world’s trust in it. Also, China falls a lot back on the index of Capital Account Openness (How easily a country allows money to flow in and out influencing investments, loans, and its economy) at a rank of 106 out of 165 countries, which is hilarious for someone passionate for the throne of World’s Reserve Currency.
Threat 2 –BRICS (Brazil + Russia + India + China + South Africa)
How does this small group of 5 countries formed in 2009 pose a threat to the dominance of The US dollar? Well, these 5 countries constitute 1/4th of the world’s land and 42% of the total human population. Individually no nation can challenge the USA, but a coalition might do the job.
In 2023 a noteworthy increase can be seen in gold reserves of all BRICS nations. India obtained 3 tons, Russia acquired 31 tons and China, the economic powerhouse secured an impressive 102 tons of gold. This signals that BRICS is planning to launch a new currency that shall be backed by gold. In recent times more than 40 countries have expressed interest in joining BRICS. At the Johannesburg BRICS summit in August 2023, 6 new members Argentina, Egypt, Ethiopia, Iran, Saudi Arabia, and United Arab Emirates have been granted entry. Collectively, BRICS is getting more and more powerful and is growing to challenge the supremacy of the West and The US dollar.
Threat 3 – The World
- Russia – The Russian President Vladimir Putin after his recent summit with the Chinese President Xi Jinping stated about his talks on conducting all of Russia’s trade transactions in Renminbi – The Chinese Yuan, extending not only to China but also with other Asian, African and Latin American countries. This shift surely stemmed from the economic sanctions being used as a weapon by the USA against Russia (Well, neither the US President nor the Indian Prime Minister would have been thrilled hearing that).
- Malaysia – Malaysian Prime Minister Datuk Seri Anwar Ibrahim proposed that Chinese President Xi Jinping set up of Asian Monetary Fund reviving the idea that was first proposed by Japan in 1997. In his domestic address, he was seen addressing the Malaysian parliamentarians that they should look beyond the West, especially the US, and Malaysia should focus on engaging with existing economic giants in Asia like China and Japan.
- ASEAN – Indonesia March 2023, witnessed finance ministers of ASEAN countries reduce reliance on the US dollar and initiate settling their trade in local currencies.
- Brazil – Brazil and China’s trade has reached a whopping value of $150 billion and both countries have signed an agreement to conduct this trade in their respective domestic currencies.
Conclusion
It’s a common belief that the dollar typically goes through 7 years of ascent before undergoing a necessary correction. It has now been a remarkable 11 years and the dollar surely is poised enough for some anticipated changes. According to Ruchir Sharma’s recent article – “A post-dollar world is coming“, a country’s currency invites difficulties when its current account deficit surpasses the 5% mark which the US dollar has surpassed. (Current Account Deficit – It’s the difference between a nation’s total value of imports and exports. more the exports, the lesser the deficit and more money into the economy). Also, the Dollar’s percentage in foreign exchange reserves held globally has fallen from around 70% to 59% today.
BUT Dollar is still the king and is not giving up its throne of the world’s most trusted reserve currency any time soon. There is no single alternative that can usurp it, as its rivals have a lot of catching up to do.
Still, when multiple small sticks are put together their strength increases manifold. The world is now ready to look directly in The World Leader – US’ ‘s eye and the commencement of slowly chipping away the hegemony of The US dollar has been put in execution. The flow of money has started to change course. In action now is what we call – “The Law of Time”.
Great analysis on the dominance of the US Dollar and how de-dollarisation remains a distant dream. Good Job. Keep It up.
Thanks sir… I’ll try to improve further with my next ones.
Explained well!👍
Thanks a lot. 🙂