How is the Dollar ruling the world?

Introduction:

“The Almighty Dollar”: While many have heard about the profound influence of this single currency on the global economy, a lesser-known question is: How exactly does it exert this influence? Current economies are actively seeking ways to reduce their reliance on the U.S. dollar as a reserve currency or medium of exchange in transactions. De-dollarization, a recent hot topic, has prompted these discussions. But why was de-dollarization necessary? Is the Dollar a potential threat? These questions have emerged because it’s a well-known fact that the dollar has dominated the world for decades as the predominant global currency. Let’s delve into the remarkable journey of a single dollar to understand how it wields significant influence over global economies.

I. U.S Dollar: What Is It?

The United States Dollar (symbol: $, Code: USD) serves as the official currency of the world’s most powerful nation, the United States of America, as well as a few other countries like Ecuador, Zimbabwe, and El Salvador. The dollar’s history is steeped in richness, setting it apart as it evolved from colonial times to become a dominant, valuable, and trusted global currency.

• The U.S. adopted the dollar in 1792 through the Coinage Act. 
• During the early and mid-20th centuries, the dollar was tied to gold and silver standards, establishing interdependence with other economies. 
• However, the gold standard was abandoned in 1971, solidifying the U.S. dollar as the world’s first universally accepted and trusted currency. It continues to play a central role in international trade and transactions, furthering the process of globalization daily. 

II. International Trade: Dollar Dominance in Trade!

• More than 80% of international trade transactions are conducted using the dollar. 
• The Fed estimates that between 1999 and 2019, the dollar accounted for 96% of trade invoicing in the Americas, 74% in the Asia-Pacific region, and 79% in the rest of the world.
• Banks used the greenback for around 60% of all international deposits and loans.

Aren’t the aforementioned statistics surprising? Can international trade even function without the dollar?

International trade involves the exchange of goods and services across international borders, a fundamental step in promoting globalization.

We must explore the dollar’s significance in this context because one might assume that the purchasing country could use its own currency for payments. Well, participation in international transactions necessitates trust and confidence in the counter-party, as well as a currency that is widely trusted and easily convertible, none other than the dollar. 

III. Exchange Rates Quoted in Terms of Dollars – Why?

Today’s exchange rate stands at 1$=82.58 rupees (as of Septeember 17th, 2023). While we understand that exchange rates are vital for international trade, exports, imports, investments, and various other cross-border transactions, a few questions arise: Why is the dollar the standard reference, considering there are 162 official currencies worldwide?

• The U.S. dollar is the most widely accepted, stable, and liquid currency, making it highly convenient for global trade.
•  Using the U.S. dollar as a common reference simplifies cross-border comparisons.
• According to the Bank for International Settlements, dollar-denominated credit to non-banks outside the U.S. totals around $12 trillion.

IV. Every Economy’s Belief – The Dollar Reserves!

Just as financial planners advise individuals or companies to maintain emergency funds or reserves to avert financial distress during tough times, the same principle applies to economies. These reserves help ensure market liquidity during economic crises and meet foreign liabilities.

The dollar’s liquidity and trustworthiness make it a major reserve currency worldwide, with many countries choosing to invest these funds in the U.S. Treasury market.

• In 2023, the U.S. dollar comprises 59% of global foreign exchange reserves, compared to 64.8% in 1997. 
• As of July 2023, China holds the largest reported foreign currency reserves of any country, exceeding USD 3 trillion.
• India’s current foreign exchange reserves amount to USD 603.87 billion, closely monitored by the Reserve Bank of India.

Graph showing the percentages of reserves held by economies across various currency denominations

V. Investments Made Easy?

The dollar’s security makes it a popular substitute currency, appealing to corrupt business people and prudent investors alike due to its ease of use and understanding.

• During times of uncertainty or market volatility, investors tend to shift their funds into U.S. dollars because of their liquidity, aiming to preserve value and earn stable returns. 
• The U.S. Treasury market stands out as one of the largest and most liquid government bond markets globally, attracting investors in search of safe assets.  
• According to the Bank for International Settlements (BIS), the U.S. dollar is involved in 88% of all forex transactions.

VI. Aid and Assistance – How the Dollar Is Saving Economies?

The U.S. dollar plays a pivotal role in providing aid and assistance to other countries. Financial aid, in the form of grants, loans, or debt relief, is often denominated in dollars, enabling countries to address economic challenges, natural disasters, health crises, and development projects, promoting stability and growth in recipient countries.

The widespread acceptance and familiarity of the dollar facilitate swift and effective responses during crises. Ultimately, the use of the U.S. dollar streamlines the allocation of resources and support to countries in need, fostering global development and stability.

Conclusion:
Amidst ongoing efforts towards de-dollarization, the supremacy of the U.S. dollar endures. As the primary reserve currency and symbol of stability, its widespread acceptance and historical resilience persist. Ralph Waldo Emerson’ quote, “The value of a dollar is social as it is created by society” encapsulates its global influence. The reign of the dollar, despite shifts, underscores its enduring impact on the world stage.

this graph summarises the role of Dollar in today’s financial system.