Why dollar reserves are becoming a major challenge for most of the central banks?
When the Bretton Woods Agreement was signed in 1940, many countries began to put the US dollar behind their currencies instead of gold. The US dollar is still the single most widely used currency in international trade. In many countries, it is a de facto reserve currency and is used for trade. But now the tide is changing.
Over the last twenty years, it has been observed that numerous countries are diversifying their currency reserves besides US dollars. Many countries are diversifying their reserve currencies, according to research by the International Monetary Fund. They are adopting various currencies other than the dollar.
Reasons why a particular currency collapses?
Whenever people lose confidence in a currency, that currency begins to depreciate. In 1900, for instance, the value of the US dollar against the British pound was almost 0%, and the value of the British pound was above 60%. At that time, the British pound was used as a global reserve currency. However, as a result of massive war debt, people lost trust in the British pound which and was later replaced by the US dollar. At present, over 60% of the US dollar is being used as a global reserve currency.
Currency Dominance Lifecycle and Dollar Reserves
If we look at the history of the rise and fall of different currencies from the year 1400, then out of all the currencies, six currencies have played a major role in the world. According to one research, the average total life cycle of a particular global currency is approximately 94 years.
How and Why did the US dollar rise to such dominance?
How did the dollar become so strong? It all happened as a result of World War 2. In 1944, President Franklin D. Roosevelt convened a convention called Bretton Woods to discuss ways to avoid a global economic crisis in the future. As a result of it, two new organizations were also formed. One was the International Monetary Fund (IMF) and the other was the World Bank. The goal of the IMF was to stabilize the currencies across the globe. Similarly, the goal of the World Bank was to do reconstruction and development.
Before the 1940s, Great Britain was an economic power. But then, as a result of World War II, Great Britain went bankrupt. The USA replaced it as the new major economic power. Soon the US dollar also replaced the British pound as the world reserve currency. Today, about 90% of all international trade, international currency exchanges, and currency reserves are in US dollars. This is one of the reasons why US economic sanctions are so powerful.
Why the Dominance of the US Dollar Reserves is collapsing now?
While the dominance of the U.S. dollar is falling apart. Why are different countries moving away from the dollar, and shifting to other currencies in their reserves?
There are many reasons why this trend is occurring in world affairs. Some of the major reasons includes the COVID-19 pandemic, the rise of China, US involvement in wars across the globe, and the sanction on Russia. These are some of the major reasons why the trust in the U.S. dollar is declining fast. Similarly, many countries are of the view that the fate of the dollar is in the hands of the US itself, which is a major threat to the sovereignty of other countries. Therefore, many are joining hands to start the de-dollarization of the international economy.
Some of the major reasons are:
Predictions of the International Organizations!
In an interview, the IMF’s first deputy managing director, Gita Gopinath, warned the United States that the dominance of the US dollar in the world would soon come to an end. She said that as a result of the financial sanctions imposed by the USA on Russia, other financial blocs are emerging and they are adopting anti-dollar policies.
Similarly, Goldman Sachs says that the dollar now faces the same challenges as was faced by the British pound in the 1900s.
To conclude, mutually beneficial global trading currency is the need of the hour. The dominance of the US dollar is fading day by day and is replacing by the Chinese and Russian currencies. However there is a threat of formation of regional currency blocks and jealousies, favoring one country over the other. Thus we need an international currency regulated by the international community which favors all equally.