Muharem Rusiti
March 2024
The global financial system has been dominated by the US dollar for the better part of a century. However, recent times seem to have witnessed a growing trend towards “de-dollarization” – a process where countries reduce their reliance on the US dollar in global transactions, reserves, and trade. In this article, we will explore the drivers of this apparent trend, the current state of de-dollarization, its geopolitical, economic, and financial ramifications, and its potential future developments.
The Drivers of De-Dollarization
The de-dollarization movement appears to have been driven by several key factors. One of the primary causes is the desire of different countries to reduce their vulnerability to US economic sanctions, trade wars, and commercial disputes. The use of the US dollar as a foreign policy tool and Washington’s ability to weaponize the greenback has been sources of increasing concern for many nations, particularly those with strained relations with the United States. By promoting the use of alternative currencies, countries seek to bypass – or at least mitigate – the impact of American sanctions in case of geopolitical tensions and safeguard their economic interests and stability.
Additionally, the rise of emerging economies – such as the BRICS countries – and their aspiration to assert their increased might and prominence has played a noteworthy role in challenging the position of the US dollar and, hence, Washington’s global supremacy. These nations, with their rapid economic growth, have been seeking not only to augment their economic sovereignty and reduce exposure to potential issues but also to enhance their global position. They aim to challenge the dominance of the greenback through various agreements such as bilateral trade and currency swap arrangements, the establishment of novel financial institutions, and the promotion of payment mechanisms such as the China International Payment System (CIPS) and the Russian Central Bank’s SPFS as an alternative to the US favored SWIFT system.
Another issue contributing to de-dollarization is growing skepticism about the long-term stability of the American economy, its national debt, and the value of the dollar. The ongoing uncertainty surrounding the US economy, combined with the unprecedented monetary stimulus measures implemented in response to the 2007-2008 global financial crisis and the recent Covid pandemic, have all, over the years, sparked fears about inflation, the devaluation of the currency, and the erosion of the greenback’s purchasing power.
Furthermore, a growing number of countries are also trying to provide more flexibility and dynamism to their economies by diversifying their portfolios and overall assets and increasing their holdings of different currencies – including cryptos – such as the euro, the Chinese yuan, the Japanese yen, and Bitcoins, as well as commodities like gold.[1]
Geopolitical, Economic, and Financial Ramifications
A trend toward de-dollarization might carry a series of geopolitical implications. If the greenback’s dominance declines, the United States may experience a decrease in its ability to wield power through financial and economic means and witness a certain degree of deterioration in its global influence and leverage over other countries. Through sanctions, freezing of assets, and exclusion from critical payment infrastructures, Washington has had the ability to extend its influence and induce users of the dollar to align with its foreign policy. A potential ongoing de-dollarization process could hence hypothetically lead to the surfacing of new and rivaling spheres of influence in competition with America’s advantaged status.
From an economic and financial perspective, the increased use of alternatives to the greenback could lead to greater currency volatility, making it more difficult to manage exchange rate risks and stability. Additionally, the US dollar’s reduced role as a global reserve and trade currency may impact its value, potentially leading to inflation and loss of purchasing power for the United States.[2]
Strictly speaking of the financial sector, de-dollarization could affect the stability of the global banking system. If the need for dollar-denominated transactions decreases, global banks would need to adapt their business models, reducing their reliance on dollar-related services. This shift could also result in a realignment of the international financial architecture and the emergence of new global financial centers.
Current State of Affairs, Outlook, and Final Reflections
De-dollarization is a complex and multifaceted trend seemingly driven by various factors, including concerns about the stability of the American economy, geopolitical tensions and the aim of countries to lessen their vulnerability vis-à-vis potential US sanctions. It also derives from the aspiration of some nations to assert their political and economic might and independence, and a general desire to promote greater dynamism and risk reduction through the diversification of assets and currency portfolios.
While the greenback is unlikely to be replaced as the dominant global reserve and trade currency in the near future, its role appears to have slowly faded in the last decades, and alternative currencies and financial transaction and payment mechanisms seem to have gradually gained some prominence. According to the latest International Monetary Fund (IMF) data, at the end of 2023, the US dollar accounted for 59.2% 1 of global central bank allocated foreign exchange reserves – dropping down from a figure of approximately 72% 2 in 2002 – while the euro and the Chinese yuan held a share of 19.5% and 2.4% respectively.[3]
That notwithstanding, considering the fact that the European currency was introduced precisely in 2002, that these figures have been somewhat stabilizing in the latest years, that the gap between the greenback and its rival currencies is still considerable, and that de-dollarization is a very complex and laborious process, a dethroning of the greenback from its hegemonic position in the proximate future appears to be an improbable scenario. The US dollar has been deeply entrenched in the global financial system as the premier currency for decades, and transitioning to a new international monetary order would require colossal efforts and revolutionizing structural reforms.
Nevertheless, if the de-dollarization process is to somehow further progress, a more likely outcome might perhaps be a patchier and more fragmented world where different countries have diverse regional and bilateral financial cooperation and payment arrangements and where distinctive currencies – including cryptos – will possibly play an increasingly important role alongside the US dollar, particularly in bilateral trade and settlements. This, of course, would impact the future of international affairs too, as it could lead to a diminished capacity for the US to exert their authority and influence in global affairs and enforce their foreign policy stances in comparison to the past and present times.
[1] International Monetary Fund. 2023. Currency Composition of Official Foreign Exchange Reserves.
[2] Goldman Sachs Asset Management. 2023. De-Dollarization: Currency Contenders.
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[3] International Monetary Fund. 2023. Currency Composition of Official Foreign Exchange Reserves.
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