Rise of the Rupee, Real and Renminbi Rival Currencies Take Aim at Dollar's Dominance
The dollar is losing its position as the world's leading currency, but it's not only the euro which will benefit. In the future, economists predict, up to five different currencies will dominate the global financial system.
The historical first simply couldn't end without the usual mantra. At the first-ever press conference in the 98-year history of the US Federal Reserve, Fed Chairman Ben Bernanke announced last Wednesday what everyone was expecting, and wanting, to hear. Flanked by the Stars and Stripes as well as the flag of the US central bank, he said: "The Fed believes that a strong dollar is both in American interests and in the interest of the global economy."
Bernanke has often made similar pronouncements -- as has US Treasury Secretary Timothy Geithner. Invoking the dollar's strength was also part of their predecessors' standard repertoire.
This familiar litany is actually a worrying sign, however. The statement is always made when things are not looking good for the dollar. In one sense, currencies are just like people: Anyone who is genuinely strong doesn't feel the need to emphasize that fact over and over.
In reality, the US currency is currently plagued by an acute bout of weakness. Its exchange rate has stabilized at around $1.50 to the euro, which is not far from the low point that it reached before the outbreak of the financial crisis. Since the beginning of the year, the dollar has lost 13 percent against the euro.
Profound Global Development
The decline in the value of the dollar on the currency markets, however, is merely an indication of a profound global development. The dollar is in danger of losing its role as the global reserve currency and the world's benchmark unit for exports.
Not only is the euro gaining in importance -- despite the debt crises in Greece, Portugal and Ireland -- but the currencies of emerging nations like China, India and Brazil will likely play a larger role in the near future, both in global trade and in the investment practices of central banks. The dollar no longer has a monopoly, according to US economist Barry Eichengreen, a professor at the University of California, Berkeley.
There are many reasons, both short-term and long-term, for the decline of the greenback, a currency once coveted around the world. The fiscal policies of US President Barack Obama and his predecessors cast doubt over whether the US will ever be able to repay its debts. The rating agency Standard & Poor's has already threatened to downgrade the credit rating of the only remaining superpower.
To make matters worse, the low interest rate policy pursued by Bernanke's Fed will further erode the value of the dollar. The central bank is printing money virtually without limit to finance the US federal budget. That's a guarantee for higher inflation.
In addition, the US is losing its dominance in the global economy. In the mid-20th century, it manufactured the majority of all goods in the world. Today, the US share of global GDP is 24 percent, and is expected to fall even further.
America's declining importance also has consequences for the role of the dollar. "It is not obvious why the dollar, the currency of an economy that no longer accounts for a majority of the world's industrial production, should be used to invoice and settle a majority of the world's international transactions," economics professor Eichengreen writes in his book, "Exorbitant Privilege: The Rise and Fall of the Dollar and the Future of the International Monetary System."
Euro's Rising Popularity
These changes are being felt only gradually, but there is no mistaking them. The dollar is still used in twice as many foreign exchange transactions as the euro, but its share has steadily declined over the past 10 years, while the popularity of the euro has risen.
It's a similar story when it comes to currency reserves. Last year, the world's central banks kept 61 percent of their holdings in dollars. In 2000, this figure was nearly 10 percent higher.
The vacant space that this leaves in the banks' vaults is primarily filled by the euro. Its share rose from 18 percent in 2000 to around 26 percent 10 years later.
The euro is also gaining ground in its role as a pegged currency. In mid 2009, 54 countries had tied their currencies to the dollar, and already half as many had been pegged to the euro.
- Part 1: Rival Currencies Take Aim at Dollar's Dominance
- Part 2: 'Room for More than One Key Currency'