The author provides an interesting discussion about the rise and the fall of the U.S. dollar in an historical context. The dollar became a power bill only after WWII even though United Sates was the largest economy around 1880. When Europe and Japan was in ruins after WWII, the U.S. dollar gained global attention and became the currency of the world's banks; the kind of cash accepted worldwide. It is an economic consequence of a widespread international use of the U.S. dollar that confers on its issuer the geopolitical and strategic leverage, namely its strong financial position and leadership in foreign policy decisions. Because it pays less on its debts, it is better able to finance foreign operations and exert strategic influence. It does not depend on other people's money. Instead, it has leverage over other countries that depend on its currency. In the 19th century, when Britain colonized half the world, the sterling pound dominated international financial markets, with the post-World War II period, when sterling lost its dominance and the United States, not Britain, called the foreign-policy shots. But what made sense then makes less sense now, when both China and Germany export more than the United States. Today the U.S. share of global exports is only 13 percent. The United States is the source of less than 20 percent of foreign direct investment down from nearly 85 percent between 1945 and 1980. These two changes are both manifestations of the same fact: the United States is less dominant economically than 50 years ago. This fact reflects the progress of other economies, first Europe, then Japan, and then China and India.
But today, in the wake of the most serious financial crisis in 80 years, a crisis is born and bred in the United States, there is again widespread criticism of America's exorbitant privilege, other countries question whether the United States dollar should have been permitted to run current account deficits approaching 6 percentage of GDP in the run-up to the crisis. Emerging markets complain that as their economies expanded and their central banks felt compelled to augment their dollar reserves, they were obliged to provide cheap finance for the U.S. external deficit. With cheap foreign finance keeping U.S. interest rates low and enabling American households to live beyond their means, poor households in the developing world ended up subsidizing rich ones in the United States. The cheap finance that other countries provided the U.S. in order to obtain the dollars needed to back an expanding volume of international transactions underwrote the practices that culminated in the crisis. The United Sates lit the fire, but foreigners were forced to provide the fuel. If this was not injustice enough, there is the fact that America's international financial position was actually strengthened by the crisis. In the course of 2007 the dollar weakened by about eight percent on the foreign exchange market. But since American debts are denominated in American currency, there was no impact on their dollar value, In contrast, American foreign investments, whether in bonds or factories, became more valuable as the dollar fell, and the interest and dividends were more when converted back into dollars. Then in 2008, in the worst of financial crisis in 80 years, the U.S. government was able to borrow vast sums at low interest rates because foreigners figured that the dollar was the safest currency to be in at a time of great turmoil. But in the spring of 2010, when financial volatility spiked, investors fled into the most liquid market, that for U.S, treasury bonds, pushing down the cost of borrowing for the U.S. government and along with it, the mortgage interest rates available to American households: this is what exorbitant privilege is all about.
The author points out that it is not the exchange rate or the net foreign investment that plays a role in dollar's strength, but it is the general health of the U.S. economy that matters. Whether the dollar rises or falls will matter much less for U.S. strategic influence than whether U.S. economic growth averages 2 or 4 percent per annum over the next decade. Hence the likely scenario for a dollar crash is one in which brought about by poor American economy. Consequently the fate of the dollar is in American hands and not those of Chinese.
Reference: Exorbitant Privilege: The Rise and Fall of the Dollar and the Future of the International Monetary System by Barry Eichengreen
But today, in the wake of the most serious financial crisis in 80 years, a crisis is born and bred in the United States, there is again widespread criticism of America's exorbitant privilege, other countries question whether the United States dollar should have been permitted to run current account deficits approaching 6 percentage of GDP in the run-up to the crisis. Emerging markets complain that as their economies expanded and their central banks felt compelled to augment their dollar reserves, they were obliged to provide cheap finance for the U.S. external deficit. With cheap foreign finance keeping U.S. interest rates low and enabling American households to live beyond their means, poor households in the developing world ended up subsidizing rich ones in the United States. The cheap finance that other countries provided the U.S. in order to obtain the dollars needed to back an expanding volume of international transactions underwrote the practices that culminated in the crisis. The United Sates lit the fire, but foreigners were forced to provide the fuel. If this was not injustice enough, there is the fact that America's international financial position was actually strengthened by the crisis. In the course of 2007 the dollar weakened by about eight percent on the foreign exchange market. But since American debts are denominated in American currency, there was no impact on their dollar value, In contrast, American foreign investments, whether in bonds or factories, became more valuable as the dollar fell, and the interest and dividends were more when converted back into dollars. Then in 2008, in the worst of financial crisis in 80 years, the U.S. government was able to borrow vast sums at low interest rates because foreigners figured that the dollar was the safest currency to be in at a time of great turmoil. But in the spring of 2010, when financial volatility spiked, investors fled into the most liquid market, that for U.S, treasury bonds, pushing down the cost of borrowing for the U.S. government and along with it, the mortgage interest rates available to American households: this is what exorbitant privilege is all about.
The author points out that it is not the exchange rate or the net foreign investment that plays a role in dollar's strength, but it is the general health of the U.S. economy that matters. Whether the dollar rises or falls will matter much less for U.S. strategic influence than whether U.S. economic growth averages 2 or 4 percent per annum over the next decade. Hence the likely scenario for a dollar crash is one in which brought about by poor American economy. Consequently the fate of the dollar is in American hands and not those of Chinese.
Reference: Exorbitant Privilege: The Rise and Fall of the Dollar and the Future of the International Monetary System by Barry Eichengreen
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