Why so Much Talk About the Demise of the Dollar When There are Much More Important Issues to Worry About?

In recent days the talk about the dollar being replaced as the world’s major reserve currency has gathered steam. Ever since the Independent Newspaper suggested that a number of countries have met to discuss replacing the dollar as the currency in which some commodities are priced everyone has been writing a commentary on the implications of such a move. Now that the reports have been denied people are still discussing the topic and some are suggesting that just because those reports were proven to be incorrect it does not mean that the threat facing dollar’s position has waned.

The reality of the situation is that it would have been very hard to price commodities in terms of a basket of currencies that actually does not have a physical presence. The dollar exists and people understand how it relates to other currencies. More importantly people can pay for commodities denominated in dollars in dollars. They don’t need to constantly carry around a calculator to find out how to convert the price from the basket back to the amount they have to pay. Secondly, and more importantly, it really does not matter what currency is used to pay for the commodity purchased, what matters is what currency the reserves are maintained. Consequently, if those who are concerned about the status of the dollar wanted to avoid future risks they can simply hold another currency as reserve.

We have seen in recent years that despite the Euros tremendous appreciation against the dollar it has still not replaced it as the world’s major reserve currency. Now, suggesting that Yuan will replace the dollar is in my opinion completely off the charts. Who would dare hold the currency of a total dictatorship as its reserve currency? The U.S., despite being a symbol of democracy, refused to pay many countries their gold back after the breakdown of the Bretton Woods. Who will trust China to fulfil its promises against its obligations? Yes, China is becoming an economic superpower, but it will have a tough time replacing the U.S. as the world’s largest economy, and it will certainly face difficulties in persuading those who actually understand international trade and economics that its currency would be a safer and better reserve currency. The interesting fact is that those who advocate such moves completely ignore China’s own actions, which was to purchase even more U.S. treasuries and continue to manage its monetary policy in sync with the U.S.

Right now, the world has much bigger problems than whether the dollar would be or should be replaced as the world’s major reserve currency. We still have a long way to go before we find out how the western economies, and in specific the Anglo-American economies, will fare once the unemployment figures reach the levels that many anticipate. Considering the growing importance of consumer spending to the overall GDP of these countries it is not clear that economic growth with high unemployment would be as sustainable as it was in the past. Most of the events we are living through are unprecedented, so no one really knows whether we are actually seeing genuine economic recovery or a small blip in an otherwise downward sloping curve.

This is the time to find a lasting solution to the current economic problems of the world, not to discuss whether the dollar should be replaced as the reserve currency of the world. This discussion happens once every few years and it usually lasts as long people have nothing better to write about. Right now, however, what we need to do is to keep our attention focussed on whether the growth in different monetary indicators are as we expected and what we need to do if that is not the case.

We are still in a very precarious economic state and need to stop attacking the U.S. every time we are bored. It is still the largest economy in the world, the only one that truly invests in and has capabilities in pure sciences, and will continue to dominate the world economy so long as it remains the world’s main source of risk capital. If you ever wondered why Japan never truly caught up with the U.S. and why the best minds from the rest of the world not only get educated in the U.S. but execute their ideas there, it is because, unlike most places in the world, the entrepreneurial attitudes of the Americans ensures that they get the funding they need to get started. Now, think of how easy it is to finance new innovative ideas in China, especially those that result in improved communications and go against the political stance of the leadership. China, Japan, and the rest of Asia are wonderful places to execute proven ideas, but they are not the kinds of places where great ideas are developed. And, until that relationship holds, the rest of the world will have a tough time finding a replacement for the U.S. or its currency.

This briefing is provided as general information, and does not constitute definitive advice or recommendations. Any views expressed in the above articles are those of the author concerned and do not necessarily reflect the views of Capco or any other party. Capco has not independently verified any facts relied upon in any of the comments made in any of the articles referred to. Please send any comments or queries to Shahin Shojai (shahin.shojai@capco.com). Shahin Shojai is the Editor of The Capco Institute journal (www.capco.com).