The Cambridge Dictionary defines a reserve currency as “a particular currency that is held by many countries who use it to make payments to other countries”. Such a currency is also meant to provide a reliable, stable, liquid store of value for all who use it — especially foreign governments.
Historically, reserve currencies were backed by gold or silver. By the time the British pound sterling became the world’s reserve currency in the 19th century, however, it was fundamentally supported by the Bank of England, underpinned by the prevailing global economic ascendency of the United Kingdom. After World War I, the US dollar began supplanting the pound sterling as the world’s reserve currency, and this role was locked in after World War II. The United States emerged as the paramount victor from that war, with all the other primary reserve currency contestants either defeated (Germany and Japan) or gravely weakened (Britain and France).
The US dollar has retained this status — sometimes labeled as “an exorbitant privilege” — since, based on the 1944 Bretton Woods Agreement (a negotiated, international monetary regime) and continuous practice. Until 1971, the US dollar was backed by gold. Since then, it has been a fiat currency, essentially backed by the American central banking system and the pivotal global importance of the US economy. One commentator put it this way: “The US dollar is backed by America’s current and future wealth — and by the US government’s ability to tax it.”
Apart from its immense financial and economic heft coming out of World War II, another critical factor shaped this outcome: The significant “moral legitimacy” enjoyed by the US, given its crucial role in defeating the terrible threat posed by Nazi Germany and Japan in that war. Moreover, the US developed (and has retained) the most formidable, globalized military force ever seen. In 1999, after the creation of the euro, it became a secondary global reserve currency, but the euro had only a minimal effect on the ascendency of the dollar.
However, events in this century have prompted discussion at the highest levels around the world sharply questioning the reserve-currency role of the US dollar today. So far, it is discussion that has mainly prevailed. The difficulty of finding apt pathways to pivotal changes that are good for all who seek reform cannot be overstated. American commentator Ian Bremmer put the matter succinctly in an article in April 2023, saying, “You can’t replace something with nothing.”
Bremmer, in that article, listed a range of factors driving dollar-substitute discussions. These included: the increasing use of alternative currencies for trade by Brazil, China, India, France, Russia and Saudi Arabia; the rise of China; deliberate weaponization of the dollar; and growing global multipolarity.
He also stressed US-generated circumstances that have cast a cloud over the dollar’s supremacy, including chronic fiscal deficits; the growing debt burden; trade wars; financial instability; disruptive digital-monetary technologies; and imperial overreach. He concluded by highlighting how the greatest threat to dollar dominance came from within the US: “The United States is still the most powerful nation on Earth, but it’s also the most politically divided and dysfunctional of all the major industrial democracies. The single biggest risk to the dollar’s global status is that growing inequality, tribalism, polarization, and gridlock eventually undermine trust in America’s stability and credibility.”
One can add to this critical catalog of pressures on the dollar’s reserve-currency credibility. Following its humiliating withdrawal from Afghanistan, after 20 years of occupation, the US appropriated the US-dollar assets of that extremely impoverished (once again Taliban-governed) country. Ever since the Ukraine war broke out, the US — with the European Union help — has been working on plans to treat the far greater Russian, US dollar and euro assets in a similar, predatory way. Others, like Venezuela, have been comparably scorched by hostile dollar-appropriation strategies.
Meanwhile, since Bremmer wrote his article in April 2023, the overall US public debt burden has increased by 13.95 percent from $31.46 trillion to $35.85 trillion as of October. The debt-servicing burden is now around $1 trillion annually and rising. It exceeds the huge American military budget (which is larger than the following nine countries combined, according to the Peterson Institute for International Economics). Total debt is currently around 122 percent of GDP. According to Ray Dalio’s Great Powers Index for 2024, the US and UK have the worst debt burden scores of all nations surveyed, taking account of fiscal deficits and debt service costs.
One important factor influencing the rise in US debt and economic growth is the immense level of military spending by the US needed to fund two terrible wars — both significantly incubated by the Global West — in Ukraine and Gaza (and now the broader Middle East). These wars have been horrific for the millions adversely affected but marvelous for the bottom lines of leading players within the US military-industrial complex — and for the Israeli armaments industry.
Also, as Professor Francis Liu argued earlier this year: Geopolitical turmoil strengthens demand for the US dollar internationally; and incubating increased warfare is an exemplary way to intensify turmoil.
History tells us that to maintain a robust reserve currency over the long term, one needs abundant, diverse and liquid financial markets, strong governance and institutional legitimacy, trustworthy, efficient safekeeping systems, and a very large global economic footprint. In geopolitics, sometimes alarming compromises are difficult to avoid. Even in this context, however, it is also centrally important for a dominant reserve-currency nation to sustain some tangible level of moral and political integrity.
Today, the US continues to tick those market size and liquidity boxes, and it retains a huge — though ebbing — global economic footprint. Wall Street is still, within its own lights, remarkably efficient. However, it also recklessly blighted the world with the global financial crisis over 16 years ago. As to the present integrity of America’s governance regime — see the Bremmer summary above. Then there is the Eighth Commandment, which says, “Thou shalt not steal.” It transpires that exceptions to this awkward rule can be swiftly crafted (allowing certain US dollar confiscations) if you happen to be on Washington’s severely loathed list.
So far, buyers of US Treasury bonds seem comparatively unworried, but another critic recently wondered if the extraordinary borrow-and-spend basis for running the American state might not be the biggest Ponzi Scheme the world has seen.
As you run down the checklist above, it is not hard to see why serious discussion about finding a new reserve currency system for the world grows more intense with each passing year. And now, a further, acutely important element is being factored into this debate.
History tells us that to maintain a robust reserve currency over the long term, one needs abundant, diverse and liquid financial markets, strong governance and institutional legitimacy, trustworthy, efficient safekeeping systems, and a very large global economic footprint
The US’ extraordinary, war-mongering track record, perhaps more than anything else, has undermined its general political and moral credibility, decade after decade. However, of late, the US has made matters monstrously worse.
Keith Johnson, writing in the US journal Foreign Policy, recently argued that: “It is hard to appreciate just how much resentment there is of Western hypocrisy and hegemony, all mortar helping to bond the loose membership of BRICS. That has become especially evident over issues such as the conflict in the Middle East, the hyperweaponization of US sanctions, and the outsized cost for middle-income countries of the dollar’s exorbitant privilege.”
Over the last year, in tandem with Israel, the US has largely incinerated — in the eyes of most of the world — whatever remaining moral and political credibility it claimed. America is the unrestrained banker of, active participant in, and pivotal military provider for the “lunatic juggernaut” that Israel has unleashed on Gaza and across the broader Middle East. After deliberately destroying countless schools, hospitals and mosques in Gaza, Israel is now also madly targeting banks it does not like, as it blitzkriegs Beirut.
A recent United Nations report says that Gaza’s economy has been left in such a state of “utter ruin” that it could take several hundred years to remedy. The same report stresses how the hellscape produced in Gaza by Israel has created an “unprecedented humanitarian, environmental and social catastrophe”.
Here is the bottom line: Massively armed Israel has become an unhinged, vengeful, land-gobbling, pariah state. And the US is grotesquely complicit in Israeli genocide and other war crimes. Worse still, that complicity is escalating by the week.
Thus, apart from all the other cogent concerns about the continuing, reserve-currency role of the US dollar, the US has — according to any basic “fit and proper person” test — branded itself in Gaza as unqualified in the eyes of a clear global majority, to remain the paramount custodian of a global reserve currency.
In fact, when you clear away the weaker justifications, two centrally important supports for the continuing reserve currency role of the US dollar remain: Bremmer’s caveat about how difficult it is to develop a real substitute for what we currently have; and American military firepower.
What, though, may be the best ways to tackle this extremely daunting replacement task?
Step-by-step measures to introduce a suite of different small-scale alternative measures are already widely discussed. Hopefully, the BRICS group may be able to develop apt collective responses. As reform begins, retaining the US dollar (within a mix of collectively agreed reserve currencies) subject to manifestly elevated international supervision, could make good sense. Convening a new, far more representative, extended “Bretton Woods” conference is another option.
The questions about how effective change may be fostered are complex and numerous. Yet it has become plain, especially over the last several years, that the world badly needs a conspicuously revised, global reserve currency system. It is vital that rigorous work to develop a fit and proper replacement regime be prioritized.
The author is an adjunct professor of law at Hong Kong University.
The views do not necessarily reflect those of China Daily.
