[Answered] How does the process of de-dollarisation affect the global economy, and what factors have contributed to the U.S. dollar’s dominance as the global reserve currency?

Introduction

De-dollarisation refers to the process where the U.S. dollar is replaced by other currencies as the global reserve currency. Reserve currencies are widely used in cross-border transactions and are held as reserves by central banks. Over time, several countries have attempted to displace the dollar’s dominant position for varied reasons.

How does the process of de-dollarisation affect the global economy?

• Instigating De-dollarisation: Notably, Russia’s invasion of Ukraine has intensified de-dollarisation attempts. The imposed U.S. sanctions that limited the use of the dollar to purchase oil and goods from Russia have been seen as weaponising the dollar, leading to a global rethink.
• Dollar Influence: The global economy is interconnected, and the dollar’s status as the international reserve currency grants the U.S. significant power over global transactions since these transactions are cleared by American banks.
• The emergence of Alternatives: As de-dollarisation gathers pace, currencies such as the Chinese yuan emerge as alternatives due to China’s rising economic prowess. This shift could redefine the dynamics of the global economy, impacting trade, investments, and geopolitical relations.

What factors have contributed to the U.S. dollar’s dominance as the global reserve currency?

• Historical Precedence: The reserve currency mantle has historically been shouldered by economic superpowers. As the U.S. rose to global economic prominence in the 20th century, the dollar took over from the British pound as the global reserve currency.
• Perceived Advantage: The U.S. dollar’s reserve currency status is seen as conferring undue privileges, allowing the U.S. to purchase goods and assets by simply creating a new currency. While this can lead to currency debasement, as long as the U.S. doesn’t debase its currency faster than others, the dollar’s value and status may remain stable.
• Global Trust: Despite several countries employing expansionary monetary policy, the dollar’s popularity stems from global trust in U.S. financial markets and the U.S. rule of law. This trust encourages investment in U.S. assets, bolstering the dollar’s position.
• Trade Deficits and Surpluses: U.S. trade deficits have led to the global accumulation of dollars, often reinvested in U.S. assets. Interestingly, countries with trade surpluses, like China, also vie for their currency to gain reserve status. Yet, restrictions and doubts about the rule of law can hinder such ambitions.

Conclusion

De-dollarisation signals a shift in the global economic order. While the U.S. dollar has enjoyed dominance for decades, emerging economies and geopolitical shifts challenge this status. Understanding the factors contributing to the dollar’s dominance helps identify what might shape future reserve currency contenders.