#96 – We are far away from the end of the dollar

  • 10 mins read
You are currently viewing #96 – We are far away from the end of the dollar

#96 – We are far away from the end of the dollar

Stay updated in real time

Dollar – In this article you’ll find:

  • Dollar – If the RMB have serious probability to become the new USD currency
  • An eventual launch of digital currencies could impact the global dominance of the dollar
  • Why RMB is playing a marginal role in international finance
  • How Chinese markets rewards could be over the long term

Here you can find other articles:

  1. How digital and social economic trends will transform wealth management
  2. How intelligence and mobility will shape the future
  3. US equity or rest of the world

ENJOY THE ARTICLE

DOLLAR

Dollar – Congressional Research Service

The U.S. Dollar as the World’s Dominant Reserve Currency

The U.S. dollar is the world’s dominant reserve currency, among other such currencies including the euro, the yen, the pound, the renminbi (RMB), the Canadian dollar, the Swiss franc, and the Australian dollar.

A reserve currency is a currency held by central banks in significant quantities.

It is widely used to conduct international trade and financial transactions, eliminating the costs of settling transactions involving different currencies.

The dollar has functioned as the world’s dominant reserve currency since World War II. Today, central banks hold about 60% of their foreign exchange reserves in dollars.

Dollar

About half of international trade is invoiced in dollars, and about half of all international loans and global debt securities are denominated in dollars.

In foreign exchange markets, where currencies are traded, dollars are involved in nearly 90% of all transactions.

China’s Global Economic Role

China’s growing role in the global economy since the 1990s has prompted China’s government to consider how to promote the use of China’s currency, the RMB, in global trade.

To date, this push has been limited by the government’s own caution in liberalizing China’s capital account, as well as investor concerns about potential risks associated with the lack of transparency and predictability of the government’s role in the market.

The Role of RMB

The RMB plays a marginal role in international finance. According to the Bank for International Settlements (BIS), the RMB is the 8th most traded currency.

It is the 6th most active currency for global payments by value, with a share of 1.66 %. By contrast, the U.S. dollar and the euro combined account for 75% of all transactions.

Dollar

China Digital Currency

China’s central bank is developing a digital currency to try to influence global finance and e-commerce, and diversify from U.S. dollar financing.

While such an effort may take time to develop, it could allow China to challenge U.S. sanctions and dollar leadership in certain instances.

Dollar – Jp Morgan Asset Management

U.S. Dollar Remains Rich In Many Crosses

We once again see the U.S. dollar as rich compared with most other currencies, with the notable exceptions of the Brazilian real and Mexican peso.

Over time, a rich dollar implies that nondollar owners of U.S. assets will face a currency headwind.

Buyers of International Assets

And vice versa: U.S. buyers of international assets may enjoy a currency tailwind to returns. In our LTCMA forecasts, we simply model currencies as either under or overvalued compared with their long-run fair value and assume a steady, linear pull to this equilibrium.

Dollar

In keeping with other public asset markets, we do not project alpha trends for currencies. However, we note that despite our linear assumption of reversion to fair value, in reality the path of currency prices can vary meaningfully from one year to the next.

Chinese Asset’s

Despite short-term uncertainty, the strategic investment case for Chinese public and private markets remains strong; we believe the rewards outweigh the risks over the long term.

Diversification opportunities, currency appreciation and potential alpha opportunities may offset Chinese assets’ relatively higher volatility for U.S.-dollar based investors.

Long Term

Long-term, we forecast:

  • onshore Chinese equity and government bonds returning a substantial premium over developed markets – further capital market reforms and opening
  • rising market participation by households as well as domestic and foreign institutions
  • a tilt by Chinese public and private equity toward new economy/growth sectors where the government wants to channel capital

Digital US dollar

The Federal Reserve (Fed) is also investigating the launch of a digital U.S. dollar. This is in part an effort to provide digital central bank money as a superior alternative to private sector stablecoins and cryptocurrencies.

Dollar

Some Fed officials have expressed skepticism about whether a digital USD would really increase economic access for the unbanked or is necessary to combat any risks stablecoins pose to financial stability.

However, a digital USD might be necessary just to maintain the global dominance of the dollar in the face of international competition; this reality could fast-track the development of a digital currency, already set in motion by the arrival of cryptocurrencies.

Global recession

During the pandemic-induced global recession, the USD was a more resilient safe haven than other currencies; today, it remains well behaved while demand rebounds.

We continue to view the currency as overvalued but have some reservations about forecasting the magnitude and timing of its depreciation.

Dollar

A narrowing in global yield differentials as relative growth tilts in favor of economies outside the U.S. suggests an erosion of the USD’s secular strength.

Dollar – Congressional Research Service

Strong demand for dollars also allows the U.S. government, firms, and consumers to borrow from foreign creditors in dollars rather than foreign currencies.

Value of the debt

As a result, the value of that debt does not depend on fluctuations in exchange rates. When other governments, firms, and individuals borrow in foreign currencies, they incur the risk that swings in exchange rates will cause their real debt level (the size of the debt in the borrower’s national currency) to increase, potentially quickly and significantly. U.S. firms and consumers also benefit by saving on transaction costs.

Challenges to the U.S. Dollar’s Global Role?

Historically, shifts from one dominant international currency to another occur over many years.

For example, in the 20th century the U.S. dollar replaced the British pound sterling as the dominant international currency over many decades (including two World Wars and the Great Depression) after the United States overtook the United Kingdom as the world’s largest economy and exporter.

The U.S. dollar has persisted for seven decades as the world’s dominant reserve currency through a number of major shifts, including the collapse of fixed exchange rates, trade and financial globalization, technological development, and geopolitical changes.

Russia’s Exports to Brazil, China, India, and South Africa: Currency Composition

Dollar

The share of Russian exports to Brazil, India, China, and South Africa invoiced in U.S. dollars fell from 85% in Q2 2018 to 36% in Q4 2022 (Figure 2), although these countries account for a relatively small share of total Russian exports.

Additionally, European countries created a special-purpose vehicle in 2019, the Instrument in Support of Trade Exchanges (INSTEX), to facilitate non-dollar, humanitarian transactions with Iran to sidestep U.S. sanctions. INSTEX has completed one transaction to date.

My Conclusions

The dollar has functioned as the world’s dominant reserve currency since World War II. Today, central banks hold about 60% of their foreign exchange reserves in dollars.

About half of international trade is invoiced in dollars, and about half of all international loans and global debt securities are denominated in dollars.

Both US and China are working to their digital currency and in my view the time to see realized this project is very long.

Anyway, I think that we’ll be to the same ship and really a little bit or nothing will change in terms of USD dominance over the next decades.

RMB is the 6th most active currency for global payments by value, with a share of 1.66 %. By contrast, the U.S. dollar and the euro combined account for 75% of all transactions.

Since 1990s China’s government are considering how to promote the use of China’s currency, the RMB in global trade.

Regarding the Chinese markets, I think, as many others that the markets could growth much more than other over the years and the exposure on China’s markets is still relatively low.

Despite short-term uncertainty, the strategic investment case for Chinese public and private markets remains strong; JP Morgan believe that the rewards can outweigh the risks over the long term.

Institutional Considerations

  • The U.S. dollar is the world’s dominant reserve currency, among other such currencies including the euro, the yen, the pound, the renminbi (RMB), the Canadian dollar, the Swiss franc, and the Australian dollar.
  • A reserve currency is a currency held by central banks in significant quantities.
  • The dollar has functioned as the world’s dominant reserve currency since World War II. Today, central banks hold about 60% of their foreign exchange reserves in dollars.
  • The RMB plays a marginal role in international finance. According to the Bank for International Settlements (BIS), the RMB is the 8th most traded currency.
  • China’s central bank is developing a digital currency to try to influence global finance and e-commerce and diversify from U.S. dollar financing.
  • We once again see the U.S. dollar as rich and a rich dollar implies that nondollar owners of U.S. assets will face a currency headwind.
  • The Federal Reserve (Fed) is also investigating the launch of a digital U.S. dollar. This is in part an effort to provide digital central bank money as a superior alternative to private sector stablecoins and cryptocurrencies.
  • A digital USD might be necessary just to maintain the global dominance of the dollar in the face of international competition; this reality could fast-track the development of a digital currency, already set in motion by the arrival of cryptocurrencies.
  • JP Morgan continue to view the currency as overvalued but have some reservations about forecasting the magnitude and timing of its depreciation.
  • The U.S. dollar has persisted for seven decades as the world’s dominant reserve currency through a number of major shifts, including the collapse of fixed exchange rates, trade and financial globalization, technological development, and geopolitical changes.

Dollar

Join the conversation with your own take on these topics in the comments below.

About the Author

Alessandro is a Financial Markets enthusiastic and he loves learning from articles/papers on many financial topics and in doing so he shares with you the most interesting charts and comments.

Disclosure

This material is not intended as an offer or solicitation for the purchase or sale of any financial instrument. This material has been prepared for informational purposes only. Any forecasts contained herein are for illustrative purposes only and are not to be relied upon as advice or interpreted as a recommendation.

0 0 votes
Article Rating
Subscribe
Notify of
guest
0 Comments
Inline Feedbacks
View all comments