Getting ready for the dollar’s fall

August 19, 2009

It just won’t go away, this needling worry about the U.S. dollar losing its coveted top-dog status.

No matter that there are plenty of reasonable arguments to support the dollar as the world reserve currency — namely there’s just no alternative — for perhaps decades to come.

Yet, in a world where once-rock-solid assumptions quickly turn to dust, investors should keep an eye on the dollar since changing perceptions are chipping away at its cherished status as currency to world.

Much of the debate so far this year has centered on creating an alternative to the U.S. dollar, championed by China and Russia as a way to wean the world off its dependence on the U.S. as well as buffer individual nations against the missteps of those in developed world. Most recognize creating a new currency will take years and the chances of an existing currency, like the yuan, usurping the dollar anytime soon are remote.

But that doesn’t mean big money isn’t starting to prepare for world in which the buck isn’t the currency of choice.

Curtis Mewbourne, a portfolio manager at PIMCO, has suggested that investors diversify away from the dollar and to move into other currencies, especially those in emerging markets.

“And while we have not yet reached the point where a new global reserve currency will arise, we are clearly seeing a loss of status for the U.S. dollar as a store of value even in the absence of a single viable alternative,” he wrote in an article published on PIMCO’s website.

Notwithstanding its big bounce during the financial maelstrom last year, the dollar has been on downward trajectory for most of this decade. The U.S. dollar index, which currently stands around 78, once traded well above 100. In the early days of the dollar’s decline, currency traders worried about general diversification where central banks with big dollar reserves would begin to shave off a small portion of their holdings and exchange them for something else like euros.

The financial crisis, however, woke the world up to just how vulnerable those squirreling away dollars — like China and Russia — were to the fortunes of the United States. The bulk of the world’s currency reserves are in dollars, with the euro still a distant second. Foreign central banks, however, could hardly start selling dollar-denominated assets to limit their exposure because such sales would cause prices on their remaining holdings to fall further.

So far, calls for alternative currencies have been seen as political posturing for both international and domestic audiences alike, but the United States. has a lot to lose if it ever turns into something more concrete.

That’s because the loss of reserve status means, among other things, that the United States would lose a crucial crutch that has allowed it to borrow its way into prosperity as well as out of depression with relative impunity. Foreign investment in dollar assets have helped keep a cap on interest rates even though the government’s borrowing binge in recent years has brought new meaning to the word stimulus.

In an op-ed published in the New York Times today, Warren Buffett railed against the flowing red ink that will push the nation’s debt to roughly 56 percent of GDP from 41 percent in this fiscal year.

Presumably this is something that has also caught the eye of foreign investors.

While the greenback is likely to stay on top for some years, persistent concerns about its reserve status and moves to diversify away from it could usher in a new era for U.S. borrowers, public and private alike — a more painful one where debt costs can no longer be offset by the kindness of foreign investment.


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ohhh, the fortune that could be made if I knew where the dollar would be next year…

Posted by dvictr | Report as abusive

where will the dollar be next year? would be nice to know ex-ante!

lower across all currencies really?? is it that simple? imagine all the implications in this forecast: what does it mean for the equity markets, exports, unemployment, or inflation. i dont know, crazy stuff!

Posted by dvictr | Report as abusive

” … no alternative?”

Nonsense. The moment the USD has busted itself beyond a certain state, all other key currencies automatically become viable alternative. Ready or not.

But the game of deliberately creating a new reserve currency outside of USD/Euro/Yen is, yes, a political game.

Let’s say the USD is no longer the dominant reserve, that worldwide holdings amount to no more than a third. I say then the biggest beneficiary is the US itself. Because that is the only way that country can possibly become financially responsible, function like other countries. And reverse the economic damages.

Posted by The Real Deal | Report as abusive

Quite a provocative post by Agnes Crane!

In regards to the push for a new reserve currency by China and Russia … at a recent G-8 summit Russian President Medvedev actually presented a sample coin for a new supranational currency. As Ms. Crane points out, this is likely nothing more than political posturing but it goes to show you how serious other countries are about such a potential move (and how timely this article is).

Re: The Real Deal
Yes, this country spends far beyond its means thanks to the dollar’s status. However, lets say the dollar does take a dive and ends up being a third of global holdings, where does the American economy go from there? Consumption makes up the overwhelming bulk of the American economy. The effects could be disastrous (not only economically but also politically and socially). How do you see the American economy rebuilding itself?

Anyway, I’ve responded to this blog post and looked at some of the topics Crane brings up on my own blog, feel free to read it here: uters-on-fate-of-dollar.html

There are obvious alternatives.

The Euro makes far better sense. The total Euro economy is bigger than the US. Its many nations make it less vulnerable to glitches like the 1994 bond market crisis triggered by federal reserve decisions. And our total foreign trade is greater.

Even China is actively promoting its currency as a reserve currency where it has influence.

Posted by Michael Grazebrook | Report as abusive

Holding wealth in a single “Reserve Currency” seems an antiquity in modern portfolio diversification. China is piling up commodity stockpiles, paying for energy development on long term contracts, buying mining equities, as working capital.
Buying US Fed bonds is just a usurers interest income, risk/reward, with a nasty exposure to relative currency prices.
So the whole social and market construction of currency values seems to need a deep and broad model. Atheoretic statistical data mining with various AI models find Forex prices hard to predict, much of the time.
Need a good book !

Posted by Survivor? | Report as abusive

Being the world’s standard currency benefits the USA a lot. ‘risk free’ assets tend to mean US treasuries. So the US raises money cheaply. And all the billions stashed in cash throughout the third world represent a vast interest free loan.

So when the USD stops being the currency people horde, that fact alone will case the USA immense economic damage.

Posted by Michael Grazebrook | Report as abusive


Yes, with the lost of dominant reserve currency role, the initial to mid-term economic damage to the US will be tremendous. This is the price to be paid. One cannot violate fundamental economic and physical laws so massively for so long without reckoning. Much of that reckoning has yet to be borne, because it has simply been transferred to the Federal government, with full intention to inflate the it away. Such currency games, common in history, will not be tolerated by much of the world. Because much of the world can afford not to tolerate it. Everybody is realigning things to contain damage to themselves will full expectation the USD will be devalued severely.

With a devalued USD, US exports, domestic labor and materials will be much cheaper. Thus opening a fresh economic paradigm. Lazy and dumb consumers will be stressed to the point where they will become fast and smart again. With a fundamental change in culture and value, with the lost of the reserve currency ‘credit card’, Americans will find they simply has to dig out the hard way. If they persist with a more responsible mindset, a new economy might just be possible in about 19 years. Why 19? That the amount of time US started digging the big hole of leverage and debt without compensating production since 1990. It will take 19 years, using a optimistic calculation, to de-leverage if US does it at the same rate as Japan did during its Lost Decade. This is what some expert reports have concluded.

Posted by The Real Deal | Report as abusive

Paper is poverty no mater what currency it is denominated in, buy gold today save your wealth.