Barry Eichengreen, Professor of Economics and Political Science at the University of California, Berkeley, is the author, most recently, of In Defense of Public Debt (Oxford University Press, 2021).
KAUAI – Is the dollar poised to lose its dominance of global economic and financial transactions? Many commentators apparently think so.
Russia obviously hopes they are right, given that it has been shut out of the United States’ banking system and suspended from the Society for Worldwide Interbank Financial Telecommunication (SWIFT). China evidently wants to help the process along by encouraging countries to undertake transactions in renminbi. And Brazilian President Luiz Inácio Lula da Silva has called for the BRICS countries (Brazil, Russia, India, China, and South Africa) to create a common currency as an alternative to the dollar.
Russia’s shift away from the dollar, which got underway following its illegal annexation of Crimea in 2014, was prompted by the fear – and then the fact – of US sanctions. More than a few commentators have since warned that other countries, witnessing US “weaponization” of the dollar, will follow the Kremlin’s example.
China’s renminbi internationalization campaign reflects not only tensions with the US, but also a desire to project power internationally, with the drive for economic and financial self-sufficiency reflected in other aspects of Chinese policy as well. The dollar’s singular preeminence, in this view, is unlikely to survive a world dominated by two large economies at loggerheads, only one of which benefits from the dollar’s “exorbitant privilege.”
Similarly, Lula’s common-currency campaign reflects the view that the rising power and influence of the BRICS can no longer be denied, and that they deserve a seat at the top monetary table, whether the US agrees or not.
So, do these global geopolitical developments augur the end of dollar dominance? History – at least twentieth-century history – suggests not. To be sure, this history confirms that international currency status can be lost. But whether that happens depends on the actions of the issuing country, not simply on geopolitical circumstances beyond its control.
To a significant extent, the twentieth-century history of global currency status is a history of the British pound sterling, the leading global currency of the preceding century. Britain emerged from World War I economically and financially weakened. It had lost skilled manpower, sold off assets to finance the war effort, and now faced intense competition from other economies.
Importantly, Britain had incurred a public debt on the order of 130% of GDP, which was six times prewar levels. That raised questions about whether the country would maintain the value of its obligations or, alternatively, inflate them away, as Germany, France, and Italy eventually did.
Yet even though the dollar had emerged as a competitor by the early 1920s, sterling’s international status was successfully maintained. A decision was taken by Chancellor of the Exchequer Winston Churchill, with broad support from the political class, to focus on this objective. Prices were pushed back down toward prewar levels, permitting earlier exchange rates against gold and the dollar to be restored. Painful steps were considered, and in some cases taken, to limit public spending.
These policies came at a cost to British competitiveness and hence to output and employment. But this sacrifice was accepted in the interest of reestablishing sterling’s role in the global economy – a goal that financial leaders regarded as being in their self-interest, and that imperialists saw as necessary for maintaining Britain’s geopolitical reach. As a result, the currency’s international role survived even the turbulent 1930s, when it remained the pivot of the sterling area, the British-led currency zone.
The United Kingdom emerged from World War II even more heavily indebted. In addition, it now had an overriding commitment to full employment, implying very different policies toward sterling. The currency was devalued in 1949 in an effort to reconcile demand stimulus and full employment with external balance. The disorderly liquidation of sterling balances by other central banks and governments was prevented with exchange controls and commercial threats.
Such measures were antithetical to international currency status. Contrary to the textbook view of ongoing competition between sterling and the dollar, scholars such as Maylis Avaro show that the shift away from sterling was already well underway in the aftermath of WWII.
At this point, geopolitics intervened. When the UK participated in an invasion of Egypt in 1956 to seize control of the Suez Canal and sterling crashed, US President Dwight Eisenhower’s administration refused to help until Britain withdrew its forces. This diminished sterling’s global stature once and for all. But these geopolitical events only validated a decline and fall that was already a fait accompli.
The fundamental lesson, then, is that the issuer of an incumbent international currency has it within its power to defend or neglect that status. Thus, whether the dollar retains its global role will depend not simply on US relations with Russia, China, or the BRICS. Rather, it will hinge on whether the US brings its soaring debts under control, avoids another unproductive debt-ceiling showdown, and gets its economic and political act together more generally.