“Dollar demise”: Inexorable but not sudden
— Neal Kimberley is an FX market analyst for Reuters. The opinions expressed are his own —
LONDON (Reuters) – An article in Britain’s Independent newspaper on Tuesday rightly attracted a lot of market attention with its provocative heading “The demise of the dollar.” While subsequent and almost co-ordinated denials from numerous capitals have taken the steam out of the story, the dollar’s role is again under scrutiny.
While the geopolitical realities of the Middle East would arguably rule out the re-pricing of oil in non-dollar currencies at this time, that may change in the future.
Alarmist conclusions that the dollar is on a swift road to ruin are wide of the mark. The road will be long and at its end the dollar will not be ruined, but it will be less important.
The dollar remains, however, on the back foot as the story resonated with a market that was already looking for an excuse to unload the greenback. Sovereign reserve managers, working for future generations, will have taken note. These stories add to the uncertainty of holding vast sums of dollars in trust.
It has long been the fate of reserve currencies to depreciate and be displaced. Global reserve currency status has always encouraged the beneficiary nation or empire to live beyond its means, safe in the knowledge that the rest of the world must hold its currency to pay for goods and commodities. The Roman dinar, the Spanish reale and most recently the British pound are all examples of currencies that have gradually lost their reserve status in this manner.
The key point is that the process is gradual. Displacement occurs in baby steps, small incremental developments which eventually create an unstoppable momentum. When the European Community first posited the idea of the single currency, the markets (particularly in London) sneered. Yet the euro was born and has prospered.
The dollar is entering a process of critical examination. This will take years, probably decades. Sterling retained significant world reserve status throughout the first half of the 20th century, despite clear signs economic primacy had shifted to the United States and despite the crushing financial weight of participation in two world wars.
One newspaper article is not a game-changer, but it is a reminder that the dollar’s position is under the microscope.
The market remembers only too well the suggestions of China’s Central Bank Governor Zhou Xiaochuan in March 2009. He said then that the world should consider adopting the Special Drawing Right, a basket of dollars, euros, sterling and yen, as a super-sovereign reserve currency.
The Chinese suggestion was a baby step toward change but the U.S. reaction was telling. Treasury Secretary Timothy Geithner said he had not read the proposal but added, “As I understand it, it’s a proposal designed to increase the use of the IMF’s Special Drawing Rights. I am actually quite open to that suggestion.” A masterful piece of political deflection but the market recognized the Chinese intent.
Even more recently, in September, the United Nations Conference on Trade and Development issued a report calling for a new global reserve currency.
It’s like the dripping of a tap. Across the world, institutions, governments and the media are wearing away at the dollar’s dominance. Central banks managing billions of dollars of reserves are not immune to these incremental developments.
In the past, Japanese officials characterized the best moment for intervention to be when they could “go with the wind.” In the current debate, reserve managers will consider that a light breeze is blowing against the dollar. They will make a measured and appropriate response. Marginal adjustments in reserves would increase the non-dollar component.
The Independent story may have been denied but it chimed with the market. It wasn’t the first such story and it won’t be the last. With the United States perceived to be living beyond its means and facing the challenges of rapidly rising economic and political rivals, the debate will continue. But it will be a long, long debate, and the effects on the value of the dollar will be incremental, not precipitate. To paraphrase Mark Twain, rumors of the dollar’s sudden death have been greatly exaggerated.
(Editing by Nigel Stephenson)