The dollar might be falling, but its reign is not over
The US dollar has registered its worst performance in a decade by dropping nearly 5%. This has resulted in fresh speculation regarding the end of the greenback’s hegemony as the default international currency. Mint explores the issue in detail.
The US dollar has registered its worst performance in a decade by dropping nearly 5%. This has resulted in fresh speculation regarding the end of the greenback’s hegemony as the default international currency. Mint explores the issue in detail.
What are the reasons for weakness in dollar?
The recent decline in the US dollar even as the treasury bills’ prices remained close to highs indicate the expectation of low growth in the foreseeable future because of the ongoing coronavirus pandemic. There are concerns that a fresh round of monetary stimulus and the economic impact of the pandemic would result in interest levels remaining low for a significant period of time. Many investors have their doubts regarding the inflationary impact of such a stimulus and have moved towards other currencies and gold. The rationale is that relatively safer assets will now perform the function of storing value as well.
Doesn’t it gain during a downturn?
Generally, during a period of an economic slump, the US dollar gains as investors look for safe assets. Conservative investors such as central banks typically use dollar reserves during economic downturns to provide support to their domestic currencies in case of volatility in the foreign exchange market. This was observed during the 2008-09 financial crisis when the dollar gained, even as investors rushed for safe assets. The greenback advanced even during the early days of the covid-19 pandemic as investors rushed for both the US dollars and the US 10-year treasuries as safe assets.
Why is it that the US dollar is not a safe asset anymore?
A decline in the US dollar’s value illustrates optimism regarding global economic growth. A decline in the value shows the confidence of investors in parking money in riskier assets. The inherent weakness of the US economy is driving investors towards other countries, which have contained the pandemic and its economic impact.
What about the gain in gold and the euro?
There has been a steady increase in the price of gold as investors rushed to buy the safe asset. There is a renewed demand for gold bars and coins, which has caused an increase in the price of gold over the last few weeks. However, a bulk of the US dollar’s decline has been against the euro, which has gained as much as 10% since May. The reason is the EU’s strong policy response to covid, which is an outcome of political, institutional robustness provided by EU leaders in contrast with the polarized political environment in the US.
Is this the end of the US dollar’s hegemony?
Recent political developments have undermined the credibility of US institutions to provide for a stable global currency, but the US dollar’s hegemony is far from over. Moreover, most central banks hold dollar reserves for intervention in foreign markets. The dollar is likely to be an integral part of the global financial system, at least for now. However, the inability to respond to covid has eroded the credibility of several institutions, which poses a long-term threat to the US dollar.
Karan Bhasin is a Delhi-based policy researcher.
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