For decades, the U.S. dollar has been accepted as the global reserve currency. However, there has been a recent trend towards de-dollarization, and MBA student and CFA candidate, Yelian Garcia, takes the time to explain what this means for the United States and the rest of the world.
The mechanism underlying the ‘dollar standard’ is widely known as the ‘petrodollar’. This system is based on the informal agreement between the US and Saudi Arabia in the mid 1970s, which resulted in pricing oil and most all other important commodities in US dollars, and only US dollars. Oil producers then recycle these petrodollars into US treasuries, and the circular flow of dollars has enabled the United States to pile up a towering amount of debt ($20 trillion) without having to worry about its financial stability. However, as the United States increases its use of the dollar reserve system as a weapon in its trade wars, the rest of the world is responding by accelerating its movement away from dollar hegemony.
The United States has seen some major changes since President Trump took office in 2016, and it serves as an example for many nations to diversify away from the dollar, or risk getting caught up in the volatile, changing and unpredictable risky political directions of America. Yelian Garcia explains that the US dollar is now being used as policy: tariffs, sanctions, pressured exchange rates, the Federal Reserve loosening and tightening, and the list goes on. Using economic sanctions as an instrument of foreign policy is an obsession that threatens to backfire and undermine the US dollar hegemony, and some say has been used too frequently and excessively.
The Shift Away from the U.S. Dollar
As the influence of the dollar wanes and it loses its status on the global stage, according to the latest research from Bank of America Merrill Lynch, it should provide some support for gold. Yelian Garcia explains that there is strong theoretical and empirical evidence to support a negative correlation between the gold price in USD and the move away from the USD; furthermore, this relationship may continue as long as no other fiat currency takes the USD’s place. Analysts at the Bank of America explain that one-fifth of central banks globally are looking to increase their gold holdings this year, and two-thirds of central banks consider gold as a safe-haven asset.
To put things into historical perspective, it is important to realize that every empire that has ever held the dominant world reserve currency has crumbled or faded away. From Portugal in the 1400s – 1550s, to Britain from the 1750s – 1900, America is just in a natural and progressive state of decline. The real question becomes, what will a globalized economy look like when the dollar is no longer the dominant currency?
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