Will the U.S. Dollar remain the go-to global currency?

US-PDGov

By Vida Denning

According to the Wall Street Journal, of all the big eight currencies, the U.S. Dollar is the reserve currency used worldwide by all banks. All international banks have up to 60% U.S. Dollars making up their hard cash in bank reserve currency.

There is a belief that even though the U.S Federal government still backs U.S. debt and the economy backs the Dollar itself, the world economy should not rest entirely easy.

The general consensus is that between budget deficits and the monetary expansion policy, the varnish of the USD has dulled a bit. So the question is; will the USD remain the go-to trading currency for the next half a millennia?

USD History

For many years the U.S government has always tied the USD to a metal except for the Civil War period. However after the war, for the following years, the Dollar was tied to gold, which was the fundamental financial structure for the States, and other currencies relying on the solidity of the USD.

The famous 1933 stock market crash caused the Great Depression which saw 11,000 banks of 25,000 go under. The Federal Reserve was unable to effectively co-ordinate the demand for money with the actually reserved amount thanks to the extremely high demands for cash. The States couldn’t simply make more money because it would flow out of the country, and be converted into other world currencies. It would lower interest rates and it would not be synonymous with the outflow of gold.

It was during the Depression that the tie between the gold standard and the USD was replaced with quasi-gold, making this applicable only to international transactions. Through the years this standard has been maintained, but now there is huge concern about the States’ inability to reasonably service its own debt, which puts the Dollar in a precarious position as the go-to currency for worldwide investors.

Currently investors and global governments are losing faith in the United States ability to manage its budget deficit which is currently sitting at $1.1 trillion, and the U.S. Congress continue to each budget deficit, which means the national debt is rising and people are losing faith and looking to other currencies to be the go-to currency. There is speculation that the Euro will be next in line to the currency throne.

As the EU has survived its darkest hours in terms of several countries being forced to implement austerity measures, the strategy has worked and many are climbing out of the financial hole. This serves to show that the Euro is being considered amongst the strongest of all currencies to be the next favoured global trading currency.

About the author: Vida Denning is a prolific freelance writer with a Forex account, and a keen interest in the details of the big eight trading currencies.

How the Dollar has changed in the 21st century

The 21st century has brought new developments to the valuation and purchasing strength of the United States Dollar. Moreover, the dollar has declined in value in two ways. First, the domestic spending parity with goods and services has declined, and second, the dollars' valuation against foreign currencies not pegged to the dollar has declined. To illustrate, with increases in the consumer price index (CPI), an inflationary metric, a dollar will be able to buy less of what it could once purchase more of.

Image source: Przemyslaw Wojtkowski

Inflationary pressures such as increases in the cost of groceries such as milk and eggs, and transportation expenses are examples of variables within the CPI inflation measurement. In terms of valuation against foreign currencies, the dollar has also decline in value. For example, the Canadian dollar used to be valued significantly lower than the U.S. dollar while in 2007 and 2008 the Canadian dollar was valued at close to par with the U.S. dollar, sometimes higher than the U.S. dollar.

Causes of fluctuation in currency value

There are several reasons why currencies fluctuate in value. The causes in daily fluctuations are sometimes due to different reasons than longer-term changes in currency valuation. Essentially, but not in all cases, the more factors that influence a currency downward are present, the lower the valuation of the currency will go in terms of value in terms of foreign currency. In regard to purchasing power a similar correlation may be drawn. Moreover, when currency value declines, inflation protection is often necessary to preserve wealth. A few of the factors that influence the price of currency are listed bellow, several of which are influenced by monetary policy implemented by the Federal Reserve Bank.

• International confidence in the dollar
• Leveraged FOREX market movements
• Inflationary pressure
• Political developments
• Economic indicators
• Liquidity or Money Supply 
• Interest rates
• Commercial Market Conditions
• Global cash flow developments
• Return on Dollar Investments

Possible solutions to increasing the Dollar's value

Deciding what needs to be done to stabilize the value of the dollar and lower the inflationary pressure that affects purchasing power of the dollar is a multifaceted issue. The reason it is multi-faceted is due to all the influencing factors mentioned above. Changing just one variable is less likely to have a great impact on the value and strength of the dollar than transforming more than one or several variables. In other words, if U.S. Investments were to yield a higher profit in relation to other global investments and the economic stability and/or growth of the United States economy were to become more favorable, then the chances the dollar would rise in value would have a greater chance  had only the returns on investments in relation to foreign investments risen.

Currency valuation and purchasing strength is an indicator of domestic and global economic conditions, inflationary factors, and international investment confidence. When globalization began to accelerate, the United States was no longer the only place in the world that provided solid returns and stability to foreign investors. The emergence of global economic blocks such as the Euro zone, and Southeast Asia made investments in U.S. Government backed securities a less important option than other global investment vehicles. While this trend has become disturbing to economists, citizens and some politicians, the dollar continues to attract foreign investment, the trade deficit had declined, and the U.S. economy remains relatively stable despite an extended period of slowed growth and downward pressure on its value from monetary policy.

Summary

In some senses fear over the decline of the U.S. Dollar is justified while in other ways it is not. While some conditions that have led to the decline do warrant remedy and action, the situation may not be as dire as some believe. This is so as the United States remains the largest if not among the largest economies of the World and for good reason. Vast natural resources, a developed securities market, a massive economic infrastructure, internal political stability, commercially favorable regulatory environment and lower taxes than in the Euro zone still make the United States a great economy.

The U.S. Government is now facing large decisions as health care, security, infrastructure, international debt obligations and other expenditures outweigh cash inflow. These financial issues are likely to be addressed in one way or another in addition to the possibility of being buoyed by favorable industrial and commercial developments within sectors of the economy that allow innovation and product development to make the American economy the leader it has been and will probably continue to be for some time to come.