The world is awash with claims about “the end of dollar hegemony”, “the end of American financial supremacy”. “De-dollarization”, ugly though it is, could be candidate for “word of the year 2023” (WOTY).
Some of this has been prompted by unease and outrage at the US government’s overt “weaponization” of the dollar and the dollar payments system in the past few years, to sanction enemies like Iran, Cuba, Venezuela, Afghanistan, North Korea, China. The US took weaponization to a new level when it used the dollar payments system to freeze Russia’ s access to $300 bn in liquid foreign exchange reserves in the wake of Russia’ s invasion of Ukraine in February 2022. Now influential voices are urging the US government to go further and appropriate those reserves (not just freeze them) and give them to the government of Ukraine for post-war reconstruction.[1] Those who think their states might be subject to the same punishment have started to search anxiously for ways to escape dollar dominance.
Confidence is an indispensable requirement for a currency, and beyond a certain point of weaponization the US undermines international confidence in the dollar as the world currency and accelerates states’ search for dollar alternatives. The BRICS countries, unsurprisingly led by Russia, are discussing how to escape dollar dominance. Even the European Union has shown signs of wanting to escape dollar dominance. The German foreign minister has called for a new EU-based payments system independent of the US and of the SWIFT payments system that would not involve dollar payments. The Brazilian finance minister in 2022 called for a South American international currency, beginning with Brazil and Argentina, and President Lula and President Albert Fernandez discussed the proposal enthusiastically. The proposal has gone nowhere so far.
But the urge to reduce a country’s exposure to the dollar is due to much older causes than the recent US resort to weaponization. In particular, the mandate of the US central bank, the Federal Reserve, requires that it takes account only of domestic conditions in designing monetary policy, not effects on the rest of the world, even though the Fed’s decisions affect the rest of the world much more than those of any other central bank.
When I taught at Princeton University, my colleague down the corridor was Paul Volcker. President Carter appointed him chair of the Federal Reserve in 1979, when the US experienced high inflation. Overnight Volcker hiked up central bank interest rates. Meanwhile Latin American states had borrowed heavily from US banks at adjustable interest rates. Overnight their repayment burdens lept. This tipped many into financial fragility and then into financial crisis, ushering in the “two lost development decades” in Latin America. Knowing this, I asked Volcker one day over lunch, “How much analysis did you at the Fed do about impacts of the interest rate hike in 1979 on Latin America?” “None.” (He was a man of few words.) “Why not?” “We didn’t have the capacity.” And he went on to explain that the lack of capacity reflected the Fed’s mandate.
And quite apart from damaging effects of US monetary policy on other regions prompting interest in finding ways to reduce exposure to those effects, people have been forecasting the end of dollar hegemony for half a century and more, for reasons to do with the inherent difficulties for the US central bank to balance supplying enough dollars for global transactions and few enough dollars to sustain confidence in the value of the dollar. This issue led economist Robert Triffin in 1960 to warn of an “imminent threat to the once-mighty US dollar” (his argument came to be known as “the Triffin Dilemma”). Charles Kindleberger declared in 1976 that “the dollar is finished as international money”. Yet here we are almost 50 years after Kindleberger, and the dollar is not at all finished as international money.
Forecasts of imminent dollar decline continue. President Putin forecast the “beginning of the end” for the dollar in June 2023. Former president of Brazil, Dilma Rousseff, current chair of the New Development Bank, pledged to “find ways to avoid … being dependent on a single currency”.
My conclusion is that the talk of de-dollarization has run far ahead of the current or medium-future reality. The dollar’s hegemony is ailing but remains a long way from ending. The short explanation is that most of the world simply has no alternative to the US dollar.
I suggest six reasons why the role of the dollar is unlikely to be significantly reduced in the foreseeable future. Together they make the case that large-scale alternatives face huge difficulties, and their emergence will stretch over decades.
Quantitative dominance of the dollar and dollar payments system
The first reason is the sheer quantitative dominance of the dollar and dollar payment system today. According to the Bank for International Settlements’ latest triennial survey, the dollar remains the most used international currency by far (as of 2022): it is part of 88% of all international transactions. Strikingly, that percentage is only slightly lower than it was in 1989, testimony to the resilience of dollar dominance.
Meanwhile, the euro accounts for 31% of international transactions, the yen 17%, the pound 13%, the RMB only 7%, up from 4% in 2019.
As for share of global foreign exchange reserves, the dollar accounts for around 60%, down from 72% in 2000. Over this period the RMB share grew from 0% to 2.6%.
Incumbency advantages
The second reason is that this dollar dominance rests on incumbency advantages – institutions which give the dollar system huge economies of scale and network externalities, such that the more users the more people need to use it. The institutions include Wall Street and US multinational corporations, which still dominate in the world system, and they have no incentives to de-dollarize. The US has well protected property rights; a court system and central bank vested with high confidence around the world; the world’s deepest, most liquid, most open financial markets, which function in dollars; and effective macroeconomic management most of the time, producing low inflation.
Beyond US direct control is an institution crucial to the dollar payments system, namely SWIFT (Society for Worldwide Interbank Financial Telecommunication). Established half a century ago, it is the nerve center of the global financial network, the message system through which all major banks transfer all major currencies. It carries over five billion financial messages a year. It does not actually move money; it simply tells one bank to debit an account and credit another. A Shanghai bank wanting to send funds to a Sydney bank has to go through SWIFT.
Kicking a country off SWIFT constitutes a severe national blow. In 2012 the US – the European Union went along – kicked Iran off SWIFT, which meant Iran could not receive hard currencies for its oil exports. The blow was severe enough, coupled with a change in government plus a change in US policy on nuclear enrichment, for Iran to come to the bargaining table in 2015 and agree with the US to restrain its nuclear program. The US kicked Russia off SWIFT after its early 2022 invasion of Ukraine; or to be more exact, kicked 10 of the largest Russian financial institutions off SWIFT.
The irony is that the US government has no ownership rights over SWIFT. It is a cooperative society, headquartered in Belgium, overseen by a board comprised of the European Central Bank and the central banks of the G10 countries, of which the US Federal Reserve is one. It is owned not by board members but by shareholders, who number some 3,500 financial institutions. In practice, the US can make SWIFT do what it wants when it makes an effort to do so.
So despite annoyance at having to comply with US regulations, including as translated into SWIFT, and fear of being potentially subject to US punishment, most of the world complies. In particular, most banks globally have no choice, because they cannot afford to let go of correspondent banking relationships with US banks.
The dollar also has geopolitical underpinnings. The US has some 700 overseas military bases spread over 80 countries, and a military budget greater than the military budgets of the next 10 countries put together. This is especially relevant to the case of Middle East oil and its pricing in dollars (see later, Saudi Arabia). China does not have the military capacity to persuade US allies in the Gulf to switch sides.
Limits on bilateral trade agreements in national currencies
The third reason has to do with limits on bilateral trade agreements to use national currencies. These agreements are increasing and could speed up de-dollarization. But so far, they remain mostly at cosmetic scale. In early 2023 Beijing and Brasilia announced they would encourage transactions in Brazilian reals and Chinese RMB. Soon after, Delhi and Kuala Lumpur announced they would conduct trade in rupees, India’s currency. France now conducts a fifth of its trade with China in renmimbi (RMB).
Saudi Arabia warrants attention. It seems to be issuing threats to make oil contracts in non-dollar currencies as part of a multipronged bargaining strategy with the US. When the Saudi finance minister announced in January 2023 (at the Davos World Economic Forum meeting) that his country was open to using currencies other than the dollar in oil contracts, he could not have expected the intense media attention. His remark ran against the decades-long implicit agreement that the US would supply Saudi Arabia with military support and Saudi Arabia would use the US dollar in its oil sales – and also invest a large portion of its dollar revenues in US government bonds (Habibi 2023).[2]
The Saudi finance minister’s announcement went with Saudi normalization negotiations with Iran under Chinese mediation and the resumption of normal diplomatic relations between the two countries. Also, with expanding bilateral ties between Saudi Arabia and China. And with close cooperation with Russia in OPEC since Russia’s invasion of Ukraine in early 2022, to prop up oil prices. The BRICS summit in August 2023 invited Saudi Arabia and five other nations to join the organization.
In response the US began to be more positive towards Saudi Arabia, which was probably the Saudis’ objective. Saudi Arabia has said it will study the terms of membership of the BRICS before accepting the offer of membership, presumably waiting to see what the US offers it not to join – and not price its oil sales in currencies other than the US dollar.
As noted, these bilateral transactions in national currencies could speed up de-dollarization. But they are inherently limited by the fact that there are surplus and deficit countries in these exchanges. Surplus countries accumulate monetary assets in the currencies of the deficit countries and may be wary of doing so because of the risk of inconvertibility and depreciation. Deficit countries may worry that surplus countries will dump their currencies in international currency markets in the search for safer assets.[3]
Limits on the use of the IMF’s Special Drawing Rights (SDRs)
Fourth, the only asset already in existence which could plausibly be upgraded to function as an international currency (without also being a national currency) is the IMF’s (SDRs). The SDR represents a unit of account coordinated by the IMF. It could play a role similar to the international currency (bancor) Keynes proposed at the Bretton Woods negotiations in 1944. The IMF could then be upgraded to a world central bank, similar to Keynes’ proposed International Clearing Union to manage the international currency.
But any such move would require wholesale reforms at the IMF, including to boost the share of votes held by developing countries, including China. The US has a veto over such changes and is unlikely to agree. The Europeans fiercely defend their over-representation in the governance of the IMF.
Also, only governments and multilateral development banks can hold SDRs, so countries will always end up converting their SDRs into a particular currency to make use of them, and that currency will be whatever is most useful for borrowing and for trade invoicing – for example, convert to US dollars to service US debt and to buy food, fuel, etc. So the SDR does not substitute for the use of a national currency, most likely to be US dollars.
Proposed BRICS currency
The fifth reason relates to the proposed BRICS currency. Within the BRICS coalition, Russia – shocked by the US’s freezing of some $300 bn of its liquid international reserves after its invasion of Ukraine — has taken the lead in designing a BRICS international currency, initially as a unit of account in transactions between the BRICS, so that the prices in these transactions would not fluctuate with the dollar. The intention is to get the unit of account up and running before taking steps to add the two other essential functions of a currency, a store of wealth and a medium of exchange.
The plan for a BRICS currency was discussed at the BRICS summit in August 2023, under the name of the R5 ( the currencies of all five BRICS begin with “r”). On the eve of the summit India’s foreign minister voiced opposition to the plan, for unclear reasons. The reasons may reflect India’s tensions with China, and India wanting to ally more closely with and boost its trade with the US. Also, the foreign minister, ignorant of finance, may have missed the point that initially the “currency” is to be limited to the more modest unit of account function, and could stop there if the parties did not want it to go further.
So the Leaders’ Declaration endorsed the general merit of de-dollarization but made no mention of a common currency. For example, the declaration stressed the importance of encouraging the use of national currencies in trade and finance between the BRICS. And it sanctioned the expansion of the BRICS Think Tank Network for Finance (established in 2022), as a forum for financial discussions.
Apart from the Leaders’ Declaration, President Lula announced that the leaders had “approved the creation of a working group to study the adoption of a reference currency of the BRICS”, which “will increase our payment options and reduce our vulnerabilities”. Russia is said to be forming a group of experts to concretize the R5, separate from the above-mentioned BRICS Think Tank. China has supported the project publicly in a low-key kind of way.
The New Development Bank (based in Shanghai, created by the BRICS) would have a key role in promoting the creation of the new currency. First, to move its own assets and liabilities out of dollars, and to issue bonds and make loans in the national currencies of its member countries. Second, to become a center for research and advocacy for the new currency. Third, to help bring the new currency into existence by issuing loans and bonds denominated in R5 and payable in it.
There is some chance that by the BRICS Summit in 2025 in Brazil, the leaders will be able to announce concrete steps to the creation of the R5 (Nogueira Batista Jnr. 2023). But the very real competing national interests and priorities have to be navigated en route – all the more so since August 2023 when six very disparate nations were invited to join the BRICS: Argentina, Egypt, Ethiopia, Iran, United Arab Emirates, Saudi Arabia. How this expanded group will reach agreement on anything is an open question. As though the existing high tensions between China and India were not enough, some of the newcomers are fighting proxy wars with each other. Compared to the BRICS+, the G7 and NATO seem like models of harmony!
The vice president and CFO of the New Development Bank, Leslie Maasdorp, said in July 2023 that although there are no current plans to create a common currency it remains a “medium- to long-term ambition”.
But as noted, the mutual confidence needed to create a common currency would be hard to sustain among such a diverse set of countries in the expanded BRICS. Also, the US would fight to undermine the viability of a currency directly oppositional to the dollar – which the Americans would likely construe as a “sanctions-evading currency”.
Many other states and private firms would hesitate to transact with the R5 for fear they may be placed on a US/EU sanctions list and be knocked out from transacting in dollars or with US and EU banks, which would be a financial death sentence as long as the US and the EU remain the world’s largest consumer economies.
The uncertain prospects for the RMB
The sixth reason why serious de-dollarization is a long way in the future relates to the RMB’s prospects for becoming a significant international currency. It is widely assumed that the US reaps an “exorbitant privilege” from having its currency also function as the international currency. But some analysts, including Michael Pettis, argue that the dollar is now an “exorbitant burden” to the US. The US has to issue floods of US dollar assets to provide the world with the liquidity it needs, and other countries’ demand for these safe assets tend to fuel speculative bubbles in the US, such as mortgage-backed securities, notably the sub-prime mortgage securities in the run-up to the Great Crash of 2008.
To the extent that Beijing realizes these downsides, it may not want to come near the “exorbitant burden” that would be likely to accrue if the RMB became a major international currency. As leader of the “global South” it may still criticise dollar hegemony, while acting to support dollar hegemony for the most part, de-dollarizing and promoting RMB internationalization only at the margins.
It is striking that China is following US-led sanctions against Russia, to the extent that the Asian Infrastructure Investment Bank (AIIB), led by China and based in Beijing, and the New Development Bank (NDB), formerly the BRICS Development Bank, also with China having a decisive say behind the scenes, have both cut off Russia’s dollar financing. And the evidence suggests that China has not given any Russia military assistance in its war on Ukraine, despite all the fraternal talk of their common pursuit of a “post-western polycentric world”.
Significant internationalization of the RMB would depend on a far-reaching re-set of US-China relations. For US firms to buy up large quantities of RMB securities they would have to judge the risk of US sanctions on China – such as US freezing of China’s liquid reserves, never mind appropriating those reserves as voices are calling for with respect to Russia – as very low. Those risks would not be low if and when China invades Taiwan, as President Xi has many times declared China must be prepared to do.
Also, China’s RMB could be used on a significant scale as an international currency only if China opened its capital account and established deep capital markets beyond state control. Beijing has good domestic political as well as economic reasons for not doing so anytime soon. It is striking that most of China’s lending for Belt Road Initiative projects throughout the global South (around $1 trillion since 2013) is in dollars, to be repaid in dollars.
Assuming the US government continues to want to protect the dollar as the international currency and that there is no collapse in American global leadership (despite a second Trump presidency), we can forecast that the probability of the RMB becoming a significant international currency is low.
Still, all this said, it is worth remembering that it took some five decades from when the US surpassed Britain as a global economic power in the late nineteenth century to when it became the dominant financial power and the dollar the dominant international currency. Beijing may be thinking of a similar “slow but steady” internationalisation of the RMB, like feeling the stones when crossing the river.
For the medium-term future, Martin Sandbu of the Financial Times can have the last word: “Claims on the west will remain denominated in western currencies and governed by its laws. If Beijing wanted to sell out of western assets altogether, it would struggle to find alternatives. The rest of the world is too small to house the scale of claims China wants to rack up”.[4]
** The author wants to thank Stephen Pagnano, Paulo Nogueira Batista Jnr, Alicia Palazuelos, Manfred Bienefeld, Thomas Biersteker, David Lewisohn, Christopher Decker, Kanishka Bhattacharya, Deborah Brautigam, Sean Starrs.
[1] Martin Sandbu. 5 November 2023, “The West must not prevaricate when it comes to seizing Russian reserves”, Financial Times. https://www.ft.com/content/42f1669f-15a4-4d02-869b-1561115c12d9
[2] Habibi, N. 2023, “Saudis flirt with ‘de-dollarization’ to get Washington’s attention”, Stimson, September 6.
[3] Nogueira Batista Jnr., Paulo. 19 August 2023. “A BRICS currency?”, BRICS seminar on governance and cultural exchange forum 2023, Johannesburg.
[4] Martin Sandbu. 5 November 2023, “The West must not prevaricate when it comes to seizing Russian reserves”, Financial Times.