Amidst uncertainty and concern about the future of the world's financial systems Donald Trump, the former President of the United States, has recently said that “Our currency is crashing and will soon no longer be the world standard, which will be our greatest defeat frankly, in 200 years. There will be no defeat like that will take us away from being even a great power”. This statement ignited widespread concern about the future of the USD and global trade.

Before we delve deeper into the subject, it's essential to have a clear understanding of what it implies for a currency to be considered the world standard. Have you ever wondered why the US dollar seems to be the currency that everyone wants to have? Well, since the end of World War II, the dollar has been crowned as the world standard currency. This means that lots of countries hoard a huge amount of dollars in their foreign exchange reserves and choose to use it for most of their international trade and financial dealings. And why is that? Simply put, the US economy is a powerhouse of strength and stability. This gives the US a ton of influence over global economic matters, which is why the dollar is so highly coveted. Let's explore in details about USD dominance:

The USD Dominance

• The U.S. dollar has held a position of dominance in global capital flows and trade for many decades.
• After World War I, the U.S. emerged as the leading financial power, replacing the pound sterling with the U.S. dollar as the international reserve currency.
• The dollar's significance grew further in 1944, with the signing of the Bretton Woods Agreement by 44 countries. This established a collective international currency exchange system that was pegged to the U.S. dollar, which in turn was linked to the value of gold.
• By the late 1960s, the U.S. faced tough competition from European and Japanese exports, while the oversupply of dollars made it challenging to back them with gold. In response, President Nixon ended the direct convertibility of U.S. dollars to gold in 1971, abandoning the gold standard and currency limits.
• Central banks continue to hold a significant amount of their foreign exchange reserves in U.S. dollars, with the currency representing about 60% of the total reserves held.

Chart: World Allocated Reserve by Currency, IMF

Understanding De-dollarization

De-dollarization is the movement towards reducing reliance on the U.S. dollar as the primary currency for international trade and transactions. This process is gaining momentum in several countries, as they seek to diversify their foreign exchange reserves and reduce their vulnerability to U.S. economic policies. The concept of the US dollar losing its status as the world standard currency has been a hot topic for some time now. Many countries have been trying to find ways to reduce their dependence on the dollar, and this is known as the "de-dollarization" movement. One reason for this is due to concerns about US economic policy, such as the printing of a lot of money during the COVID-19 pandemic, which could lead to inflation and devaluation of the currency. Additionally, countries are wary of the potential for US sanctions, which could hurt their economies.

How are countries decreasing their reliance on the US dollar?

Many nations are becoming increasingly worried about America's ability to manipulate the global financial system through its control of the US dollar. As a result, countries are testing out alternative currencies to reduce the dollar's hegemony. For instance, during the US economic sanctions against Russia over its invasion of Ukraine, several countries sought to minimize their use of the USD for trade settlements. This trend suggests that the era of the dollar's global dominance may be slowly coming to an end.

• Russia and China have teamed up to reduce dollar reliance and increase financial cooperation. Russian President Vladimir Putin has expressed support for using the yuan for trade settlements between Russia, Asia, Africa, and Latin America. Since the 2022 invasion, ruble-yuan trade has soared eighty-fold. Russia and Iran are also planning a gold-backed cryptocurrency, while central banks, particularly Russia's and China's, have been buying gold at the fastest pace since 1967 to diversify their reserves and reduce dollar dependence.

Chart: Largest Increases in Gold Reserves, Q4 2022 (World Gold Council)

• China and India, two major economic powers in Asia, have launched separate initiatives aimed at reducing the dominance of the US dollar in international transactions and promoting the use of their own currencies for business settlements. In an effort to de-dollarize trade, the Reserve Bank of India (RBI) has granted approval for central banks from 18 countries, including Tanzania, Kenya, and Uganda, to establish special Vostro Rupee Accounts (SVRAs), allowing them to settle payments using Indian rupees. These developments highlight the growing trend towards the use of alternative currencies in global trade and could have far-reaching implications for the international monetary system.
• In addition to being individual countries, the BRICS alliance is reportedly investigating the development of a shared currency for use in inter-alliance trade. The BRICS acronym refers to the collective of Brazil, Russia, India, China, and South Africa, which represents an alliance of five influential emerging nations. Together, these countries make up 41% of the world's population and contribute 24% of the global GDP, with a 16% share in world trade. By introducing a common currency, the BRICS alliance could further enhance its impact on the global economy.
• Saudi Arabia has recently announced that it is exploring the possibility of pricing its oil sales to China in Chinese Renminbi, with the aim of reducing the influence of the US dollar in the global financial system. Currently, the US dollar is the currency of choice for approximately 80% of global oil sales. If Saudi Arabia moves ahead with this proposal, it could potentially boost the use of the Renminbi in international transactions, and contribute to the ongoing trend of de-dollarization in global trade. This development could also signal a shift in the balance of economic power, with China emerging as a major player in the global economy.
• The two biggest economies in South America, Brazil and Argentina, have been in talks about establishing a shared currency in the past few months.
• Saudi Arabia has recently announced its openness to conduct trades using currencies other than the US dollar, marking the first time in nearly 50 years that the country has expressed such willingness. This move could be seen as a significant step towards reducing the dominance of the US dollar in global trade.

The Bottom Line

Although several countries are exploring options to reduce their dependence on the US dollar and promote alternatives, the dollar's global sovereign status remains secure for now. Despite this, the fact that central banks still hold about 60% of their foreign exchange reserves in dollars suggests that the currency remains a key player in the international financial system. Nevertheless, India, Russia, China, and Brazil have recently made a significant pact aimed at bolstering their independence and minimizing the power of the USD. This highlights the waning trust in the dollar among non-Western nations and underscores the trend of major economies in Asia and Latin America cooperating to enhance their sovereignty.