U.S. President Donald Trump’s tariffs have caused some champions of globalization to predict the decline of the dollar as the global currency as other nations take the leadership in cobbling together free trade areas – for example, the TTP less the United States in the Pacific, and China’s attempt to cobble together economic cooperation arrangements in the region.
Central banks around the world hold major foreign currencies – dollars, euros, yen and so forth – to back up their fiat money. Gold cannot be mined fast enough at reasonable cost to accommodate economic growth, and its value – what it buys in soybeans and software – fluctuates much more than major currencies.
As New York offers a deep, sophisticated and reliable capital market and traders can buy virtually anything in America, central banks must hold dollars above all other major currencies to be taken seriously by private investors.
The dollar accounts for 63 percent of central-bank holdings, followed by the euro at 20 percent, even though the U.S. economy is smaller than the eurozone.
Most investors worldwide either buy securities denominated in their home currencies or in dollars. After all, Mexican pensioners and businesses pay their expenses in pesos but if their home currency drops precipitously in value thanks to a surge in domestic inflation, then a hoard of dollar bonds or CDs is mighty useful insurance.
Consequently, the dollar’s share of cross-border debt financing has jumped from about 45 percent to over 63 percent since 2008.
Globalization and digitalization have created more intense trading relationships among once-distant and unrelated nations. For example, Chile recently signed a trade agreement with Indonesia but their two-way trade is too small to support a currency market with derivatives that insure against unexpected exchange rate fluctuations. The answer is simple – import contracts can be written in dollars, and traders can purchase forward contracts in the peso-dollar and rupiah-dollar markets to off load risk.
The dollar has gained an outsized role for the same reason English is increasingly the global language. In trade as on the internet, it is easier to have a common denominator – America’s currency and mother tongue.
Chances are those Chilean and Indonesian traders write contracts in English too.
Despite euro aspirations to be a global currency, 23 percent of German contracts for imports are denominated in dollars even though only 6 percent are shipped from America.
Overall, about 40 percent of imports worldwide are invoiced in dollars even though the United States accounts for only about one-10th of global sales.
Foreign multinationals and trading houses store hoards of dollars to conduct business and hedge risk. Foreign banks take dollar deposits, pay interest on those in dollars and offer dollar loans. Foreign governments and businesses issue dollar-denominated bonds and virtually all of this is electronic, much of it unregulated and most importantly, the result of private sector choice.
Sorry Bitcoin, offshore dollars were a private currency for years – largely virtual, without official government sanction and lightly regulated – long before initial coin offerings came along. And it’s run by much more trustworthy and careful people.
Fact is no other currency has the global utility and supporting infrastructure of the greenback.
The dollar stands on top a strong banking system, while the next logical candidates, the euro and yuan do not. Germany’s largest bank, Deutsche Bank, is a basket case, Italian banks are well, very Italian, Chinese banks sit on a mountain of bad state enterprise and corporate debt, and private property is not safe in the Middle Kingdom.
The U.K. pound and Japanese yen sit on economies that do not provide the same mass and array of goods and services. And if Brexit proceeds, the euro becomes one national election away from collapsing – the Italians could conclude the single currency is a manifestation of German economic imperialism.
All this did not happen by government edict, it is King Dollar by acclaim of private traders, investors and plain old folks like you and me.
And all along, you thought the Federal Reserve made the greenback what it is.
Peter Morici is an economist and business professor at the University of Maryland, and a national columnist. © 2018, The Washington Times, LLC.