It’s just straws in the wind so far. In the past couple of weeks, India’s Ministry of Culture announces that foreign tourists can no longer pay in dollars when visiting the Taj Mahal and other heritage sites; they have to pay in good hard rupees. Iran and Venezuela call for a joint OPEC statement on the weak US dollar, and Saudi Arabian Foreign Affairs Minister Saud Al-Faisal warns that any public reference to the US dollar’s problems could cause the troubled currency to “collapse.” Rap star Jay-Z’s latest video shows our hero flashing a wad of euros, not dollars.
For the majority of Americans who do not travel abroad, the only visible effect so far of the dollar’s steep fall has been higher fuel prices at the pump. The Chinese imports that fill the big-box stores still cost the same because the Chinese yuan is still pegged to the American dollar. But that may be about to change, along with many other things.
At the beginning of 2003, one euro bought one US dollar. Now it’s pushing $1.50, and there’s no reason to think that it will stop there. Three of the world’s biggest oil exporters, Iran, Venezuela, and Russia, are demanding payment in euros rather than dollars. Last week a Chinese central bank vice-director, Xu Jian, gave voice to the suspicion of others, saying that the dollar was “losing its status as the world currency.”
If that happens, then the United States loses a great deal. Other countries have to maintain large reserves of foreign currencies — most of which they keep in US dollars — to cover their foreign debts, but the United States can pay its huge foreign debts in its own money. If necessary, it can just print more dollars.
The main reason for the collapse of the US dollar is President George W. Bush’s attempt to fight expensive foreign wars while cutting taxes at home. This involved deficit financing on a very large scale, and inevitably the value of the dollar began to fall — slowly at first, but with increasing speed as it became clear that the White House did not care.
As it fell, the price of oil (usually calculated in dollars) rose to compensate for it, but there was no comparable adjustment for foreign central banks that had huge amounts of US dollars in their reserves. China, which was sitting on about a trillion US dollars, simply lost several hundred billion as the currency’s value fell. So various central banks started wondering if they should diversify their reserves, and some acted on it.
The downward pressure on the dollar will continue, because the United States is currently borrowing 6 percent of its gross domestic product from foreigners each year to cover its trade deficit. Foreign banks were happy to go on lending so long as they had faith in the integrity of US financial institutions, but that has been hit hard by the subprime mortgage crisis.
Besides, other markets, notably China and India, now offer a better return — and the US Congress’ resistance to foreign takeover bids, combined with tighter visa restrictions, make the United States a less welcoming place for foreign investors.
Above all, there are now alternatives to the US dollar. The last time it faced a comparable crisis was in 1971, when a different Republican president was trying to run another unpopular war without raising taxes. Richard Nixon devalued the US dollar and demolished the Bretton Woods system that had fixed all other currencies in relation to the dollar, inaugurating the current era of floating exchange rates. There was no other candidate then for the role of global reserve currency, so the dollar stayed at the center of the system despite all the turbulence.
This time, by contrast, there is the euro, the currency of an economic zone just as big as the United States, with the Chinese currency a possible long-term rival. But nothing is likely to happen very fast. The last time the world went through a change like this, it took more than forty years to complete. Before World War I, the British pound reigned supreme, accounting for 64 percent of the world’s currency reserves and 60 percent of all global trade.
Britain then impoverished itself in two world wars, but the dollar did not fully replace the pound until the 1950s. Today the dollar accounts for 70 percent of both international trade and currency reserves, but it’s probably starting down the same road.
Many countries are replacing part of their dollar reserves with a basket of other currencies, and those who have pegged their currency to the dollar are starting to cut loose from it: Kuwait has already done so, and the United Arab Emirates is considering it.
If China unpegs, things will move a lot faster, but in any case, the long farewell of the US dollar has begun.