The U.S. Dollar’s Global Reserve Status: No Sign of Slipping

E ven in these strange times, the perennial features of the world continue apace. Here in the United States, summer is turning to fall. Perhaps no less predictably, a fresh set of forecasters is predicting the end of the U.S. dollar’s status as a reserve currency. New varietals this year involve digital money and fresh fronts of economic conflict between the U.S. and China.

Many of these predictions presume the U.S. dollar’s reserve status to be a function of the U.S. government’s geopolitical heft. The problem with the prognostication? The evidence (or lack thereof).

America’s geopolitical clout has seen peaks and valleys since the dollar first became the world’s reserve currency after World War II. Stories that frame the greenback’s reserve role as a function of the U.S. government’s influence may be ubiquitous. If the data are any guide, however, they don’t belong in the nonfiction aisle. The vicissitudes of King Dollar have never lined up with the peaks and valleys of Uncle Sam’s geopolitical clout.

The chart above shows how the U.S. dollar’s role as the international reserve currency has waxed and waned between 1950 and 2019. The data lend themselves to a number of stories about what drives the greater, or lesser, adoption of the dollar as a global reserve. But a tale in which King Dollar rises and falls along with the geopolitical influence of Uncle Sam is not one of them.

For instance, perhaps the zenith of America’s postwar hegemony came in 1990. The Berlin Wall was crumbling. The chief geopolitical rival of the U.S. government for decades, the Soviet Union, had finally fell for good. America was head-and-shoulder above any remaining rivals. Yet that period coincided with the dollar’s lowest share of official reserves since the 1960s. If the dollar’s ubiquity were a functional of geopolitical clout, you’d have expected this to be the peak rather than the valley that appears on the chart.

One common metric of a country’s overall geopolitical or economic heft is its share of the world GDP. The chart also shows the U.S.’s share of world GDP. As prognosticators of the U.S. dollar’s demise often assert, America’s share of the world’s GDP has indeed trended down over time. But the dollar’s role in the world economy has proven resilient. As the chart shows, it has ebbed as well as flowed even as the U.S. share of world GDP has generally been on a steady downward slope. If America’s share of GDP is supposed to tell us something about King Dollar’s longevity, to borrow a Shakespearian aphorism, it seems to be an idiot: The tale it tells signifies nothing.

Why? It’s the economics, stupid.

Foreign governments do not stockpile dollars because of fuzzy feelings towards the United States. They plow reserves into U.S. dollars because their own citizens and businesses use them. As a result, to support their own domestic economies, foreign central banks and foreign governments need to stockpile U.S. dollars. Why do foreign citizens and businesses use U.S. dollars? For the same reason many of them speak English: in a world where everyone else is already doing something, it makes sense to do so yourself. Like languages, currencies exhibit what economists call “network effects” — the value of adopting English or the U.S. dollar over French or the euro stems, in part, from the size of the existing network it allows you to access and transact with. Sure, the story of how the financial system first came to revolve around the U.S. dollar, in the ashes of World War II, is rich fodder for historians. But it’s as irrelevant to a business’s choice of currency as is the history of the English language’s spread around the world to a child’s decision to study Shakespeare’s mother tongue rather than French as a second language.

Pronouncements about America’s decline may be trendy. It’s not hard to see why: Many things in the world today seem as novel as they are worrying. Premature predictions of the demise of America’s dollar, however, are as familiar as the fall foliage in New England. Past performance may be no guarantor of future returns. But if you’re holding your breath until the dollar’s reign crumbles, your health (or sanity) may be next to tumble.