The latest iteration of the ‘end of the US dollar’ thesis
Plus, the RBA versus the RBNZ; and US March non-farm payrolls
RBA Governor Lowe fields a question from Shane Wright at the National Press Club on Wednesday. Photo credit: Stephen Kirchner.
It doesn’t take much of a news hook for the ‘end of dollar dominance’ op-eds to get a fresh outing. This time, it was on the back of Vladimir Putin’s pledge to adopt the renminbi for payments between Russia and countries of Asia, Africa, and Latin America, as if Putin had much choice. The Saudi government, which does have more of a choice in the matter, has also announced that it will start invoicing some oil exports to China in renminbi. China established the Shanghai International Energy Exchange in 2018 for oil futures contracts settled in renminbi with physical delivery.
If there is a fresh angle to the ‘end of the dollar’ thesis, it’s that the US government’s very effective use of financial sanctions against Russia will prompt greater efforts to bypass the US dollar payments and settlements system. In my 2019 USSC paper, The ‘reserve currency’ myth, I noted that the US government’s effective control over US dollar payment and settlement infrastructure was potentially a powerful tool for international economic sanctions. I also noted that were the US government to make greater use of this tool, it might prompt further efforts to disintermediate the US dollar from international transactions.
But far from posing a threat to US dollar dominance, recent efforts to disintermediate the US dollar in response to sanctions only serve to underscore and reinforce its dominance. Sanctioned regimes looking to US dollar alternatives are seeking to make a virtue out of necessity. That regimes hostile to the US and its allies are seeking to denominate their transactions in RMB or other currencies is economically irrelevant. The demand for US dollars is driven by foreign demand for US goods, services and (most importantly) assets.
As I argued in my USSC paper, the dominant role of the US dollar is symptomatic of the size, depth and liquidity of US capital markets. The role of US capital markets is in turn deeply rooted in its institutions, such as the rule of law and respect for property rights. These are advantages enjoyed by the United States that are not easily replicable by other jurisdictions.
US dollar dominance is symptom not cause. The US dollar holdings of foreign central banks are also largely irrelevant to the US dollar’s global role. Foreign exchange reserves are ultimately held for policy purposes, in particular, maintaining the capacity to intervene in foreign exchange markets. The exchange rate most central banks care about is the US dollar rate, although intervention can occur on other cross-rates. It could well be that a non-US dollar bloc emerges to facilitate transactions among pariah states, but that only serves to highlight their economic isolation.
It is worth updating two of the charts from my 2019 paper. Standard Chartered’s RMB internationalisation index has since risen to new highs, but the broader trend until very recently is mostly flat: