Name: Why a strong dollar isn't as good as you think
Uploaded: 2022-11-13T18:00:18.000Z
Duration: 8 min 48 s
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Adverbs of manner

Throughout the nation, throngs of people, thankfully celebrate the end of the war in Europe.

Since the end of the Second World War, the United States has been the world's superpower.

And the strength of the U.S. dollar as the dominant international currency plays

a key role in its influence on the global stage.

Despite constant predictions of the dollar's demise,

nearly 60% of the world's central banks' foreign exchange reserves – the money to

cover unexpected financial emergencies – are invested in dollar-denominated assets.

The share of the US dollar as a global payment's currency is more than 40%,

while its share of international debt and loans are over 60 and 50% respectively.

Besides being the go-to currency for international financial transactions,

commodities such as oil are also bought and sold in U.S. dollars.

The dominance of the dollar in transactions extends to the U.S. banking system too,

which is, in turn, influenced by America's fiscal and monetary policies.

And while that may seem like good news to Americans,

it's bad news for much of the rest of the world.

Eswar Prasad is an economist at the Brookings Institution and a professor

at Cornell University. He's written about the enduring dominance of the U.S. dollar.

So here's the paradox. The rest of the world despises, how dominant the dollar is yet,

they go to the U.S. dollar, because there really isn't much of an alternative.

This is why the U.S. dollar is often referred to as the

cleanest shirt in the currency laundry basket.

Its attractiveness is due to a number of factors,

including the size of the U.S. economy, and its reserve currency status among the world's

central banks and that it's ultimately proved to be a reliable source of economic growth.

When the U.S. economy is doing relatively well,

compared to the rest of the world, the dollar strengthens.

But there is an additional feature - money flows into the U.S. dollar

because it's seen as the safest currency to put money in during troubled times.

So all of this is ultimately going to entrench the dollar's dominance even further.

That is certainly a serious problem for low-income

countries that have high levels of foreign debt, especially dollar-denominated debt.

Developing nations are increasingly reliant on the U.S. dollar for borrowing and trade,

which can have serious implications domestically, especially during times of turmoil.

When the U.S. central bank, the Federal Reserve,

started to raise interest rates in March 2022 to combat inflation,

investors flocked to U.S. dollar-denominated investments such as bonds and fixed deposits.

The U.S. dollar index, which weighs the USD against a basket of six currencies,

would eventually hit a record 20-year high in September of 2022,

feeding into inflationary pressures abroad.

Many low-income countries that borrowed in dollars to import necessities like

food and oil soon got into difficulty. Average consumer prices globally grew by

nearly 9%, and in the case of Sri Lanka, it registered a 50-percentage point increase.

As prices increased, the dollar reserves held by these countries began to run dangerously low.

Depleting reserves contributed to the worst economic crisis in Sri Lanka's

history and the resignation of the country's president.

Ghana and Egypt also faced rising food prices and a flight of foreign investment out of the country.

And Pakistan was struggling to pay back its loans when

the rupee hit a record low against the dollar.

In other parts of Asia, the strength of the dollar

also brought back painful memories of the financial crisis in 1997

when Thailand's central bank ran out of U.S. dollars, which spooked investors.

The chaos quickly spread to South Korea, Indonesia and other countries in the region.

Many countries outside the U.S. borrow in dollars because foreign

investors don't have confidence in their currency.

This means that when the value of the dollar strengthens,

it becomes more expensive to pay back debts out of local currency revenues.

While a strong dollar does mean that European and Asian exporters have an edge over domestic

producers in America, it doesn't cover the higher cost of borrowing the dollar.

On the other side, you may think a strong dollar is benefiting the U.S.,

especially in terms of imported goods being cheaper.

But it turns out that the U.S. does not import that much.

So much of the world suffers from a very strong dollar.

While on the flip side, the benefits of a U.S. dollar are small and transient.

There's this sort of vicious cycle for these emerging markets whereby they,

But at the same time, it's just exacerbating

the problem by depreciating all these emerging markets currencies?

Johanna Chua is the chief Asia economist for American investment bank Citigroup.

A lot of solvency risks is triggered by a liquidity risk.

So when you strengthen the dollar, you actually erode the purchasing power,

the buying buyers purchasing power of a lot of the other countries whose currencies are depreciating.

It's also the dominan currency for global funding.

And to the extent that a lot of countries, particularly emerging market countries,

they finance themselves in dollar, you essentially make the cost of dollar borrowing more expensive.

Some economists also believe that a stronger dollar has allowed America's global GDP and

trading power to go above and beyond the levels it would otherwise have reached.

This has led to a growing resentment over the

dollar's dominance and led to many countries looking for alternatives.

We are beginning to see countries trying to break free from the grip of the dollar.

So China has set up CIPS, the Cross Border Interbank Payment System, which could in

principle, allow China to start conducting payment transactions with other countries,

including rivals of the U.S., such as Russia, but also potentially allies

of the U.S. such as the European countries, were also frustrated about dollar dominance.

Quite remarkably, in China, if you look at the amount of goods trade,

denominated in renminbi, it actually went up quite a bit.

And this is in a backdrop where the dollar was strengthening and you know,

renminbi for the most part actually depreciated.

And yet, there's a greater share of trade settlement.

There's still some institutional deficiencies in terms of trust, in terms of investor protections

in China, given what we've seen with what happened with tech and property sector.

China will want to go to put the renminbi forward as an alternative.

There are clear signs, however, that the U.S.'s economic dominance has shrunk,

shifted towards emerging market economies, particularly China.

The U.S. economy now accounts for about a quarter of global GDP, down from 30% in 2000.

The emergence of digital currencies could play a

significant role in reducing the reliance on the dollar.

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