Our Dollar, Your Problem summary

Picture the D-Day celebrations in 1944 – Allied forces triumphant, flags waving, revellers in the streets. This moment marked not just the end of the war, but also the astonishing rise of the USD to global dominance. Between then and now, though, this position has faced serious challengers.

The Soviet ruble presents perhaps the most surprising case. Post-collapse, it seems absurd that the ruble could have toppled the dollar, but in the 1970s many economists believed parity was a real possibility. The USSR boasted fast growth and impressive infrastructure: massive dams, nuclear power plants, and space programs that captured global imagination. But could a centrally planned system really compete with market capitalism? The boom years were fueled by large-scale infrastructure projects that proved unsustainable. The crucial inflection point came in 1964 when Brezhnev attempted to rationalize the system and bring it more in line with market principles. Had he succeeded, the ruble might have genuinely contended with the USD.

Two forces in particular are shaking the foundations of American monetary hegemony: China’s yuan and the rise of cryptocurrencies. Both represent fundamentally different approaches to unseating the greenback, and both carry profound implications for global finance.

China’s challenge is perhaps the most systematic and deliberate. Beijing has been methodically building the infrastructure for yuan internationalization through initiatives like the Belt and Road program, which finances massive infrastructure projects across Asia, Africa, and Latin America – often with loans denominated in yuan rather than dollars. China has also established currency swap agreements with dozens of countries, allowing direct trade without converting through dollars first. The digital yuan represents another strategic move – a central bank digital currency that could potentially bypass the dollar-dominated SWIFT payment system entirely. China’s economic scale makes this credible: it’s the world’s second-largest economy and largest trading partner for over 120 countries. When China and Russia conduct energy trades in yuan, or when Saudi Arabia considers accepting yuan for oil payments, these aren’t just economic transactions – they’re geopolitical statements.

For most of the world, the goal isn’t to compete with the US dollar. It’s to live with it. And one of the most popular strategies has been pegging their own currencies directly to the greenback through fixed exchange rate systems.

The logic seems straightforward: tie your currency to the world’s most stable reserve currency and import that stability. Countries peg by promising to exchange their currency for dollars at a fixed rate, requiring central banks to hold massive dollar reserves to defend that promise. In the short and medium term, this can work brilliantly – it reduces exchange rate volatility, makes international trade more predictable, and can help control inflation by importing US monetary credibility. But these systems are inherently fragile and can collapse dramatically when economic fundamentals diverge too far from the peg.

There are real risks inherent to US dollar dominance – both to America, which faces the burden of being the world’s banker and the risk of currency overvaluation hurting exports, and to the wider world, which suffers from imported US monetary policy and vulnerability to American financial sanctions. So why doesn’t the US simply walk back its position? Simply put, because it judges the perks to outweigh the risks. Let’s take a closer look at those perks.

The most spectacular advantage is that foreign countries are willing to hold enormous amounts of US debt. By mid-2024, foreign central banks held $6.7 trillion in US Treasury bills – a figure that rises to $8.2 trillion when you include private investors. Why are they so willing? Because dollars are the world’s safest store of value and most liquid asset. This creates what economists call “exorbitant privilege” – the US can borrow at lower interest rates than any other country, essentially getting the world’s cheapest credit card. American consumers and businesses benefit from artificially low borrowing costs, while the government can finance massive spending programs without the typical constraints faced by other nations.

What potential risks and challenges lie in wait for the US dollar? The threats are more serious than many Americans realize, and they stem from vulnerabilities baked into the very system that created dollar supremacy.

Inflation represents the most immediate danger. The Federal Reserve’s commitment to keeping inflation relatively stable serves as the key bulwark between prosperity and market turmoil. But Fed independence isn’t set in stone, and there are factors the Fed can’t manage. Factors like political pressure created by unsuitable fiscal policies, geopolitical pressures to hold down interest rates despite inflationary risks, or administrations that prioritize short-term growth over long-term stability. The stock market despises high real interest rates because they make bonds more attractive than stocks and increase borrowing costs for companies. Consumers love low rates because they make mortgages, car loans, and credit cards cheaper. These pressures create dangerous incentives to keep rates artificially low.