The advent of digital money will threaten the U.S. dollar’s global dominance, but it won’t be easy to dethrone the current global reserve currency.
The global monetary system has been centered around the United States dollar since at least the end of World War II when the 1944 Bretton Woods Agreement formalized the greenback’s ascent to unchallenged dominance. Control over the world’s reserve currency came hand in hand with a boost to the nation’s already enormous geopolitical influence, as well as the ability to run huge deficits at low cost.
Today, a growing chorus of experts believe that the dollar’s hegemony might be in a decline. America’s diminishing share of world trade, the expansion of China’s monetary power and the anticipated digitization of national currencies can all potentially erode the foundations of the incumbent financial order. So, what role could prospective central bank digital currencies and decentralized currencies such as Bitcoin (BTC) play in shaping the new international monetary system?
America’s exorbitant privilege
One of the most common terms to denote the U.S.’s outsize influence on international trade is “monetary hegemony,” which first appeared in Super Imperialism, a 1972 book by the economist Michael Hudson. Almost half a century after its publication, many of the ideas articulated in it still hold true.
As of this year, close to 60% of all foreign exchange reserves are still allocated in the dollar. Furthermore, around 40% of world trade is invoiced and settled in dollars, in addition to its 88% share of worldwide forex trades.
Being in a position to mint the currency that serves as the world’s unit of account comes with a slate of perks, putting the U.S. in a position of so-called exorbitant privilege. For one, because it pays for imported goods with its own national currency, the monetary hegemony faces no balance of payments constraint. This means that it’s not at risk of losing the ability to pay for essential imports or finance its current account deficit.
Being the largest debtor nation in the world, the U.S. has taken full advantage of the dollar’s position. As all parties engaged in international trade — governments, corporations and banks — are always in need of dollar liquidity, the market has a near-infinite capacity for new dollar-denominated debt. For decades, the U.S. has been spending way beyond its means, thanks to this simplified access to cheap international credits.
Additionally, this position of monetary dominance provides tremendous geopolitical leverage. By denying adversary nations access to the dollar-centered global financial system, the U.S. can inflict damage comparable to — or even beyond — that of a military intervention. Economic sanctions have long been a primary instrument of exerting pressure on nations deemed “rogue” by the State Department.