It is currently discussing with Saudi Arabia the use of the yuan for purchases of oil – a commodity priced, liked almost all traded commodities, in US dollars.
Despite its best efforts, which include the development of a digital currency, and a joint venture with SWIFT to develop an international platform for the e-yuan, China’s efforts to internationalise its currency have had only modest success.
Reports of the imminent death of the dollar greatly exaggerate its likelihood and underestimate the obstacles to weaning the world off its dollar dependence.
The yuan accounts for only about 2.5 per cent of the international financial transactions processed via SWIFT. Its share of foreign exchange reserves is slightly lower.
The greenback is used for about half the world’s trade, including a 74 per cent share of the trade in the Asia-Pacific region. About 60 per cent of global foreign exchange reserves are held in dollar-denominated assets and about two-thirds of all global securities issuance is in dollars.
Also, about a third of the world’s economies peg their currencies to the dollar. While China doesn’t, it uses a basket of its trading partners’ currencies in which the US is, naturally, the dominant currency.
The euro is the world’s second-most traded currency but it accounts for only about 21 per cent of international foreign exchange reserves, only about five per cent of foreign countries are anchored to the euro and only 23 per cent of foreign currency debt is issued in euros versus 60 per cent in dollars.
The Europeans have made their own efforts (again encouraged by Donald Trump’s trade wars on everyone and his disdain for traditional US allies and global institutions) to reduce their reliance on the dollar.
They’ve tried to promote more trade in euros, particularly for trade in commodities traditionally denominated in dollars and for settlements for trading in bonds, equities and derivatives.
The problem that Russia, China and even Europe confront is that the dollar’s dominance perpetuates its dominance. The network effects and the coincident dominance it confers on US banks (and their influence over SWIFT) makes it difficult to wean activity away from it.
There are other factors at play.
The US has the world’s largest, deepest and most liquid financial markets, particularly the world’s largest government debt market. Financing in Europe and most other major markets is done primarily through banking channels rather than securitised debt markets.
The size of its economy and financial markets, the relative stability of the currency, the strength of its legal system and a central bank at arms’ length from its politicians are other factors that are integral to the dollar’s global acceptance.
Europe has some of those same characteristics but its debt markets are much smaller and its governance, given that it comprises 27 individual nations, is more cumbersome and fragmented.
China doesn’t have developed debt markets. Its judicial system isn’t trusted. It controls capital flows. Its currency isn’t free floating, but managed.
It has been cautiously but steadily opening its markets but, as offshore bondholders have learned during the cascade of defaults by Chinese property developers, or equity investors have learned from its crackdown on big tech companies, China prioritises its own interests over those of foreign investors.
The dollar’s dominance has eroded in recent decades as the EU strengthened its institutions and expanded its membership and China has also chipped away at the dollar’s market position.
Trump aided and intensified their efforts and he might do so again if he wins another term in the White House and restarts a MAGA agenda that is hostile to most international engagement, including NATO.
In the long run – decades ahead – maybe the deployment of the dollar’s global clout to impose the sanctions on Russia, and the message that has sent to China and others, will see its dominance reduced further.
It would, however, take significant structural changes to Europe’s financial systems and an unlikely relinquishment of absolute control over its economy and legal and financial systems by China’s Communist Party to create meaningful change.
Cryptocurrencies, often touted as an alternative to the dollar, are too volatile to develop as a viable source of a future reserve currency, although it is conceivable that a digital dollar might displace the physical currency or even, as former Bank of England governor, Mark Carney has suggested, that a virtual “synthetic hegemonic currency” — a basket of multiple digital currencies — might emerge.
That’s all in the very long term, however. In the meantime, reports of the imminent death of the dollar greatly exaggerate its likelihood and underestimate the obstacles to weaning the world off its dollar dependence.
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