- De-dollarisation refers to the replacement of the U.S. dollar by other currencies as the global reserve currency.
- A reserve currency refers to any currency that is widely used in cross-border transactions and is commonly held as reserves by central banks.
- Countries have tried to dethrone the dollar as the global reserve currency for many decades now for various reasons. But of late, attempts to de-dollarise have picked up pace in the aftermath of Russia’s invasion of Ukraine last year.
The reserve currency advantage
- Currently, the Chinese yuan is seen as the primary alternative to the U.S. dollar owing to China’s rising economic power. Other currencies such as the British pound and the French franc have served as international reserve currencies in the past.
- It should be noted that it is the currencies of economic superpowers that have usually ended up being used as the global reserve currency. As the economic clout of these countries waned, their currencies faced a similar downfall.
- Critics of the U.S. dollar believe that the global reserve currency status gives it unfair privileges over other countries, thus justifying de-dollarisation attempts by many countries.
- It should be noted that when a country’s fiat currency enjoys reserve currency status, it gives the country the power to purchase goods and other assets from the rest of the world by simply creating fresh currency out of thin air.
- Fiat currency is a government issued currency that is not backed by a commodity such as gold.
- However, such irresponsible expansion of the money supply can cause the debasement of the currency and eventually threaten its status as a reserve currency.
- Debasement refers to lowering the value of a currency.
The popularity of the U.S. dollar
- Many economists argue that the U.S. dollar is not forced on anyone to be accepted as a medium of exchange for cross-border transactions. They note that the U.S. dollar is widely used in international transactions because people actually prefer to use the American currency over others for various economic reasons.
- Other currencies that have tried to compete against the U.S. dollar are not as popular as the greenback for carrying out international transactions. For example, a recent attempt by India and Russia to carry out trade between the two countries in Indian rupees rather than in U.S. dollars has hit a roadblock because the value of India’s imports from Russia far outweighs its exports to the country.
- This left Russia with excess rupees in hand which it was unwilling to spend on Indian goods or assets, and led to Russian demands for the settlement of bilateral trade in U.S. dollars. So, even Russia, a long-time friend of India and a long-time foe of the United States, preferred to carry out its trade with India using U.S. dollars since the dollar is far more widely acceptable than the Indian rupee.