The decline of the dollar’s status as the dominant “world reserve currency” against the dollar’s exchange rate
Nothing goes to hell in a straight line, not even dollar hegemony.
By Wolf Richter for WOLF STREET.
Yes, the Fed is a drunk and reckless money printer, and the US government has been high for years on deficit spending, but other major central banks and governments are doing the same or worse. Long-term trends are clear, however.
Global share of US dollar-denominated foreign exchange reserves climbed to 59.5% in the first quarter of 2021, after falling to its lowest level in 25 years in the fourth quarter of 2020, according to IMF data on the composition of official reserves exchange rate (COFER). released at the end of June. Dollar-denominated foreign exchange reserves are Treasury securities, US corporate bonds, US mortgage-backed securities, US commercial mortgage-backed securities and other dollar-denominated financial assets held by banks foreign power plants. The first quarter was a ripple in the long term trajectory.
Since 2014, the dollar’s share has fallen by 6.5 percentage points, from 66% to 59.5%, on average 1 percentage point per year. At this rate, the dollar’s share would fall below 50% over the next decade.
Two decades of unstable decline.
Since 1999, when the euro arrived, the dollar’s share in foreign exchange reserves has fallen by 11.5 percentage points, from 71% to 59.5% (year-end shares, excluding Q1 2021):
Exchange rates between the dollar and other currencies change the dollar-denominated valuations of non-dollar reserves, such as German government bonds.
Yes, but… The Dollar Index (DXY) has moved significantly since 1999, up and down, but is now roughly back to its 1999 level.
This means that almost all of the decline in the dollar’s share of foreign exchange reserves since 1999 has been due to the offloading of dollar-denominated assets by central banks, not exchange rates (data via Investing.com):
The Fed’s own holdings of dollar-denominated assets – the $ 5.2 trillion in Treasury securities and $ 2.3 trillion in mortgage-backed securities, are not included in global foreign exchange reserves.
The dollar against other reserve currencies.
The euro, the second reserve currency, has been roughly pegged to about a 20% share of global reserve currencies. In the first quarter of 2021, it was 20.5%. The ECB’s holdings of bonds denominated in euros are not included in foreign exchange reserves denominated in euros.
All other reserve currencies combined had a 19.9% share in the first quarter. The larger ones are represented by the colorful spaghetti grouped together at the bottom. The Chinese renminbi is the short red at the bottom:
Colorful spaghetti at the bottom.
Anyone who thinks that the Chinese renminbi is going to bring the dollar down from its hegemonic position should be very patient. The renminbi’s share in global reserve currencies is growing at a snail’s pace, but it is increasing.
In the first quarter, the renminbi reached 2.45% of total reserve currencies, although China is either the largest or the second-largest economy in the world, depending on how the counting is done. The renminbi is in fifth position behind the US dollar (59.5%), the euro (20.6%), the yen (5.9%) and the pound sterling (4.7%) and ahead of the Canadian dollar (2.1%) and the Australian dollar (1.8%).
What this tells us is that central banks around the world are wary of the renminbi and are unwilling to hold renminbi-denominated bonds, although they are dipping their toes into it.
The graph below shows the enlarged “bottom spaghetti”, on a scale of 0% to 6%, which cuts the dollar and the euro. Note the surge of the yen since 2015, which has exceeded the slow rise of the renminbi.
Should a country with a large monetary reserve have trade deficits? Nope. But the reserve currency allows it!
The economies of the second reserve currency (euro), third (yen) and fifth (renminbi) all have trade surpluses with the rest of the world and huge trade surpluses with the United States. A large reserve currency does not have to have a large trade deficit, as is sometimes claimed.
But having the dominant reserve currency allows the United States to finance its trade deficits, and this reserve currency status thus allows the United States to have these trade deficits.
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