Posts Tagged ‘US Dollar’

How Long Can the US Dollar Remain World’s Reserve Currency

Saturday, June 30th, 2018

How Long Can the US Dollar Remain Worlds Reserve Currency?

By

Col (Retd) Bhaskar Sarkar VSM

The other day my brother sent me a Whatsapp message titled “Death of the US Dollar”. The piece stated that the Chinese Yuan has been added to IMF’s basket of currencies and China is persuading countries to use the Yuan in place of the US dollar in bilateral or even multilateral trade. Some trade deals in Yuan have been signed. The US dollar has been the world’s reserve currency since 1946. It has thus ruled the world for 72 years. Is it time for it to be replaced? This article seeks to examine when, if at all, the US dollar may be replaced as worlds reserve currency.

Strong Currency VS Weak Currency

Strong currency makes imports cheaper. Thus countries who are net importers like the US, UK and EU like to have strong currencies where as export oriented countries like Japan, China, Asian Tigers like to have weak currencies so that their exports are more competitive in price sensitive markets. Strong currencies are great for governments giving aid to developing countries, military or project expenditure abroad and tourist going abroad. A strong dollar helps the US and UK government and consumers. But it makes US and UK wages and manpower costs in manufacturing uncompetitive.

To explain the effect of currency conversion, I would like to give a few examples. I had an uncle who was an UK citizen with a pension of 1000 British pound in 2002. That was barely liveable in UK. He used to stay six months a year in Goa, India. His 1000 Pounds converted to Rs 72,000. He lived comfortably and could afford a maid and a chauffeur. One radish in Singapore costs one Singapore dollar or Rs 50. In India the same radish would cost us Rs. 5 to 10.

Frankly, I do not understand why one US dollar is Rs 68. In 1992 it was just Rs 14.

If one US dollar ever became equal to one Chinese Yuan, the US manufacturing would be highly competitive. China would not be able to sell anything in the US market. If one US dollar could come down to Rs 34, the price we pay for crude oil in Indian rupees would be half of what we pay today.

Why is dollar over valued?

The United States had remained untouched by the ravages of World War II. Its industrial production in 1945 was more than double that of annual production between the prewar years of 1935 and 1939. In contrast, Europe and East Asia were economically shattered.  The United States held most of world’s investment capital, industrial production and exports. In 1945, it produced half the world’s coal, two-thirds of the oil, and more than half of the electricity power. It held 80 percent of the world’s gold reserves. The United States started with initial economic advantage, consolidated it during and after the war and assumed leadership of the capitalist world. The United States got what it wanted through the “Benton Wood” systems for the world economy. Its dollar replaced the British pound as the world’s trading currency.  President Franklin D. Roosevelt saw the creation of the postwar order with the US at the top as a way to ensure continuing prosperity for his country.

The situation has changed. 70 years of warmongering under the Marshall Plan, policing the world and corporate greed supported by US Presidents from Regan to Obama resulted in industrial activity and manufacturing moving to Japan, Asian Tigers and China and made the US the world’s largest debtor nation. Its Public debt is over $ 20 trillion and national debt over $ 32 trillion. The gold reserve vanished when Nixon was president and the US withdrew from the gold standard. The US dollar is certainly overvalued.

So what keeps the Dollar afloat? It is because those countries which hold large reserves of dollars, China, Japan, Germany and Saudi Arabia want it to be strong so that their exports to the US remain cheap, US manufacturing cannot compete and the value of their dollar holdings is not reduced. So they keep buying US dollars when it weakens to keep it strong.

Economic Stability of Nations

Before we examine the possibility of the dollar being replaced by a new reserve currency, I would like to touch upon a new concept, “economic stability of nations”. Stable economies are those economies which are least affected by turmoil in the world economy like rise of protectionism, collapse of globalization or WTO, trade wars and a major war. These economies produce adequate food, raw materials and energy for the needs of their population and industries. They are not export oriented economies. The US, Russia, Australia and Canada are the most stable economies where as China, Japan and the Asian Tigers are the most unstable economies. These countries import energy, raw materials and export commodities and manufactured goods and machinery to the world. They can have serious economic and law and order problems if supply of energy is disrupted due to war or sanctions, the supply of raw materials is disrupted due to similar reasons or because the producers of raw material decide not to export ores but want to export metals. For example India has reduced export of iron ore and seeks to export iron and steel.

Development and rate of growth needs to be sustainable. The rich nations, IMF, World Bank and private investors encourage developing countries to borrow money and grow fast. Repayment is difficult. A default suits the rich nations who then take away economic sovereignty, force devaluation and exploit them as much as possible. Sri Lanka borrowed from China to build its infrastructure and fight LTTE. Unable to payback, it has sold the strategic port of Hambantota. Male and Nepal are borrowing heavily from China and will soon be gobbled up. Papua New Guinea and Gabon are cutting their rain forests and exporting timber to find money for growth. What happens when the forests are finished? Who are benefitting? The people will not benefit. Corrupt politicians and multinationals will. How long are the Gulf States going to splurge and fund dictators like Al Sisi of Egypt, terrorists and Islamic fundamentalism with their oil and gas revenues? More and more countries are trying to develop their own energy sources and increase use of renewable enrgy. The US has become a crude and gas exporter rather than a major importer. The economies of Nigeria and Venezuela have collapsed along with their oil revenues. Yet tiny Cuba with a less than Hindu rate of growth (3%) is stable and has no serious economic problems. The new government of Malaysia has wisely cancelled its bullet train project between Kualalumpur and Singapore because it is not economically viable and Malaysia would not be able to pay back the debt. Unfortunately, India persists with its bullet train and highway projects with borrowed money.

If and When Can the US Dollar be Replaced

The main requirement of the reserve currency is universal acceptability. Governments, investors, bankers and traders in different countries must be willing to accept it and exchange it for local currency at laid down rates. The British Pound, the Euro and the Yen are accepted as payment for goods and services in many countries. When Iran was under US sanction, India paid for oil imports in Euros. The requirement of US dollar or any reserve currency can be dispensed with in bilateral trade. For example, Soviet Union and India traded in Rupees for about 20 years. China accepts payment in Yuan for its exports to boost sales in countries which do not earn enough dollars to buy goods and services they need. Some countries like Singapore accept currencies of most countries in the world and convert them into local currencies. The importance of a reserve currency is slowly reducing.

The second requirement of a reserve currency is that there must be enough of it to meet the needs of the world. In Dec 2016 there were over 1.5 trillion US dollar notes in circulation. Printing of the US dollar is no longer made public. In comparison on the same day about 1 trillion Euro, 100 billion British Pound and 900 billion US dollars worth of Japanese Yen were in circulation. The figures for Chinese Yuan could not be found. (www.en.wikipedia.org/wiki/Circulation_(currency) . It will be seen that the US dollar has the largest numbers in circulation with Euro a close second. The notes in circulation of any other country are not adequate to meet the needs of the world.

Conclusion

The US economy does not dominate the world anymore like it used to up to the sixties. Its gold reserves are gone. From the largest lender nation it has become the largest debtor nation. But it is still the world’s largest economy. Its main competitors, Europe and China have a long way to go before they can overtake the US. Both are unstable economies because they are heavily dependent on other countries for their energy and raw material needs and for markets to sell their products.

US and EU sanctions are forcing countries to trade without using the reserve currency. Bilateral trade in local currency is becoming more common. It is also a tool to increase export to countries with low dollar reserves. Thus the importance of holding foreign exchange reserves in US dollars is reducing. But the US dollar will remain strong and the reserve currency of the world as long as two out of EU, China and Japan want it to remain so.

(Col Sarkar has written two books on economics, “Economic Nationalism: The Strategy for Survival of Developing Nations” and “Growth and Decline of Economies of Europe and US: http://smashwords.com/b/231033)