This defeatism of the dollar is greatly exaggerated. Russia, China and other American adversaries would love to escape Uncle Sam’s financial hegemony. But they have been trying for years and have little to show for it.
China has been on a rampage against the dollar since 2008, when its vast portfolio of US bonds nearly imploded during the Great Financial Crisis. Chinese President Hu Jintao has called for “a new international financial order” and Beijing has begun to promote the use of the renminbi in international trade and as a central bank reserve asset. Soon, renminbi-denominated trade began to grow rapidly, albeit from a low base. Credible economists have predicted that the renminbi could become the first reserve currency within a decade.
In the following years, countries at risk of being sanctioned by the United States redoubled their efforts to escape the dollar. Russia was the most impatient. Its central bank has transferred most of its non-dollar foreign exchange reserves to other stores of value. Its sovereign wealth fund has promised to get rid of all dollar assets. He built a financial messaging system and connected it to Iran’s, thwarting a Western decision to eject Iran from SWIFT, the dominant platform for instructing global transfers. Russia has also worked with China to reduce the use of the dollar in bilateral trade. In 2020, the Bank of Russia published an article on the digital ruble, which would bypass traditional banks and reduce Russia’s exposure to sanctions.
The results have been modest, as the fate of Russia shows today. Western financial sanctions hammered its economy, Russians struggled to make payments overseas, and the crypto escape hatch proved useless.
Moreover, a careful examination of the state of the dollar confirms that it is not really at risk. In five or ten years, dollar-based sanctions will probably be as powerful as ever, including in a crisis where the target is China.
Since 2008, the dollar’s share of foreign exchange reserves held by central banks has declined only slightly, from around 65% to 60%. Additionally, the other three most popular reserve currencies are issued by the European Union (21%), Japan (6%) and Great Britain (5%). Future U.S. financial sanctions against China would almost certainly require the support of these regions, partly because they are geopolitical allies and partly because European and Japanese banks live in terror of being shut out of U.S. financial markets.
How much of the world’s foreign exchange reserves are held in renminbi? The answer is 2%. The ruble and crypto are languishing below 1%.
Central banks like to use dollars for the same reasons businesses and individuals do. They hold dollars knowing that others will gladly accept them, just as many learn English because others speak it. Worldwide, almost three-fifths of private bank deposits in foreign currencies are held in dollars. A similar share of corporate foreign currency borrowing is in dollars. Neither measure shows many signs of decline. The Federal Reserve estimates that foreigners accumulate about half of outstanding dollar banknotes.
Chinese bulls cite the proliferation of renminbi swap lines or agreements allowing pro-China central banks to call in renminbi loans in the event of a crisis. A 2020 tally had 35 such agreements, more than the Federal Reserve maintains with its foreign counterparts. But these renminbi swap lines are mostly symbolic. Central banks in smaller economies have been bullied into signing on, but they have no practical use for Chinese lending. In a crisis, they want dollars because their national banks do business in dollars. A permanent renminbi line of credit is the financial equivalent of fluency in Esperanto.
Meanwhile, the Fed might offer dollar swap lines to a shorter list of countries, but there’s nothing tokenistic about them. During the Great Financial Crisis, the Fed lent $585 billion to its foreign counterparts through these facilities. During the pandemic lockdown, it pumped out another $450 billion. Indeed, the popularity of dollar swap lines outweighs any anecdotal chatter about China’s alleged financial rise. The dollar is more entrenched in advanced economies than before 2008 because major central banks know the Fed will support the dollar-denominated parts of their financial systems.
Of course, the reserve currency status of the dollar is not a divine right and the Fed should strengthen its resolve to fight inflation. But monetary dominance is a kind of sticky power. For now, there is no reason to expect the United States to lose it.