NYT: The dollar is rapidly losing credibility in the world due to US policy
The dollar is rapidly losing credibility in the world, writes the NYT. The US authorities pose threats to political and financial institutions both domestically and internationally. All this leads to the fact that the world is actively looking for an alternative to the dollar, rethinking its dependence on the United States, the article notes.
Barry Eichengreen
The dollar is the world's currency, not just the American one. It is the unit of measurement in which most cross-border transactions around the world are quoted and performed. 89% of international foreign currency transactions are carried out in dollars. Almost 60% of central banks' foreign currency reserves from Beijing to Zurich are in dollar accounts and held in U.S. Treasury bonds. It can be said that the dollar is the language of international communication in international financial markets.
At least for now.
The $40 trillion question is whether such a wonderful situation will continue. Recent turmoil in the U.S. bond market raises the question of whether dollar-denominated securities, long considered bulletproof and protected from government action, are as safe and liquid as central banks and private investors think they are. There is no connection with the markets here, it's just that the Trump administration is creating threats to political and financial institutions, both domestically and internationally.
Doubts about the vitality of the US dollar are nothing new. Exactly half a century ago, in 1976, Charles Kindleberger, an outstanding monetary economist and professor at the Massachusetts Institute of Technology, announced that the dollar as an international currency had "come to an end." This is how Kindleberger reacted to President Nixon's 1971 decision to unilaterally abandon the gold standard, that is, from a fixed dollar-to-gold peg. This led to the Federal Reserve closing the "golden window" that allowed foreign countries and central banks to exchange their dollar assets for gold at a fixed price of $35 per ounce. This led to the demise of the Bretton Woods system that emerged after World War II, which provided for flexible exchange rates pegged to the dollar.
By and large, experts such as Professor Kindleberger were alarmed by Nixon's pressure on Fed Chairman Arthur Burns to lower interest rates to help him get re-elected. They were concerned about the acceleration of inflationary processes in the United States and the Watergate scandal, which tarnished the reputation of the administration and America in the eyes of the whole world.
Of course, Professor Kindleberger was wrong. The dollar has maintained its dominant position to this day, that is, for 50 years since that moment.
In retrospect, the explanation for this situation is quite understandable. American political institutions have risen to the occasion and overcome the Watergate scandal. Nixon was threatened with impeachment, and he was forced to resign. His successor, Democrat Jimmy Carter, appointed Paul Volcker, who is extremely independent and uncompromising towards inflation, as chairman of the Federal Reserve. Carter did not heed the warnings of his adviser Burt Lance, who said that this appointment could jeopardize his re-election. Volcker appropriately raised interest rates as much as 20%, and Carter appropriately lost the election. But by the mid-1980s, double-digit inflation had become history, and the dollar's chronic weakness had given way to its strength and power.
At the same time, the United States used its geopolitical levers and alliances to encourage other countries to trade in dollars. In 1974, after the first OPEC oil shock, Treasury Secretary William Simon flew to Saudi Arabia to get King Faisal to agree to invest the kingdom's oil export revenues in dollars, offering further supplies of American weapons and military aid in exchange. In 1977, Simon W.'s successor, Michael Blumenthal, promised to help Saudi Arabia gain expanded voting rights at the International Monetary Fund in exchange for a commitment to set oil prices in dollars.
As Professor Kindleberger eventually admitted, there is no alternative to the global dollar. No other currency can serve as a means to carry out cross-border transactions on a large scale.
But now, finally, there is reason to believe that an alternative exists. Observing the actions of the Trump administration, allies and trading partners have expressed concern about the separation of powers, the rule of law, and rising corruption in the United States. For centuries, each of the leading international and reserve currencies — not only the dollar, but also the British pound in the 19th century, and the Dutch guilder in the 18th century — has been the currency of a democracy or republic. As President Trump seeks to fire Fed members who do not comply with his demands, cancel contracts for wind energy projects that he does not like, and prosecute political opponents, foreigners have begun to question whether the dollar remains such an international reserve currency.
Moreover, every leading international currency is backed by a strong financial institution that is separate from politics. The Trump administration's constant threats against Lisa Cook, a member of the Fed's board of governors, as well as Trump's long-standing attacks on the central bank, are causing confusion among investors and questions about whether the Fed will maintain the independence necessary to act as a reliable governor. If the Fed fails in this matter, the dollar may lose its value, further weakening its global role.
Further, there are doubts about America's commitment to its international alliances, such as NATO or the Mutual Defense Treaty that binds America and South Korea. Historically, countries have, use, and maintain the currencies of their alliance partners. Allies are also buyers. The purchase of US debt obligations is a demonstration of goodwill and recognition of partners, which King Faisal understood well in 1974. In the 1960s, when the dollar's fixed peg to gold came under pressure, it was the central banks and the governments of West Germany and Japan that supported the dollar and invested in it, given that the United States kept troops in both countries and covered them with its nuclear umbrella.
Recently, the central banks of Japan and South Korea have been holding a larger share of their reserves in dollars than would be expected based on the volume of their trade and financial ties with America ($1.12 trillion and $135 billion, respectively). Undoubtedly, they are rethinking this addiction today. European officials such as the President of the European Central Bank, Christine Lagarde, are doing the same, stressing that Europe must become more financially and monetarily independent. It's an Aesopian language that means less dollars and less dependence on the United States.
Supporters of the dollar are still trying to prove that there is no alternative to the American currency. But Europe and China are working hard to fix this shortcoming. Europe is promoting the idea of a Capital Markets Union, which is designed to create a central capital market in euro-denominated financial securities in order to reduce friction and ensure the free movement of money. China is expanding its yuan-based Cross-border Interbank Payment System, CIPS, to compete with major U.S. banks and with the dollar.
They all act like they don't have any time left. And the facts indicate that they are right.
Barry Eichengreen is a professor of economics and political science at the University of California, Berkeley, and the author of Money Beyond Borders. World Currencies from Croesus to Crypto" (Money Beyond Borders: Global Currencies from Croesus to Crypto).
