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Dr. Eichengreen, the George C. Pardee and Helen N. Pardee professor of economics and political science at the University of California, Berkeley, argues that the dollar is soon to lose it's role as the primary reserve currency.

http://online.wsj.com/article/SB100014240527487033...

He claims that the extent to which the market remains dollar-centric is surprising, given that the three primary tenets that lend to its prominence are eroding:
o The singular depth of markets in dollar-denominated debt securities
o The fact that it is the world's safe haven in crises that investors instinctively flock to
o The dearth of stable alternatives it has always enjoyed

Eichengreen cites that each of the above are quickly fading.
"First, changes in technology are undermining the dollar's monopoly. Not so long ago, there may have been room in the world for only one true international currency. Given the difficulty of comparing prices in different currencies, it made sense for exporters, importers and bond issuers all to quote their prices and invoice their transactions in dollars, if only to avoid confusing their customers.

Now, however, nearly everyone carries hand-held devices that can be used to compare prices in different currencies in real time. Just as we have learned that in a world of open networks there is room for more than one operating system for personal computers, there is room in the global economic and financial system for more than one international currency.

Second, the dollar is about to have real rivals in the international sphere for the first time in 50 years. There will soon be two viable alternatives, in the form of the euro and China's yuan.

Americans especially tend to discount the staying power of the euro, but it isn't going anywhere. Contrary to some predictions, European governments have not abandoned it. Nor will they. They will proceed with long-term deficit reduction, something about which they have shown more resolve than the U.S. And they will issue "e-bonds"—bonds backed by the full faith and credit of euro-area governments as a group—as a step in solving their crisis. This will lay the groundwork for the kind of integrated European bond market needed to create an alternative to U.S. Treasurys as a form in which to hold central-bank reserves.

China, meanwhile, is moving rapidly to internationalize the yuan, also known as the renminbi. The last year has seen a quadrupling of the share of bank deposits in Hong Kong denominated in yuan. Seventy thousand Chinese companies are now doing their cross-border settlements in yuan. Dozens of foreign companies have issued yuan-denominated "dim sum" bonds in Hong Kong. In January the Bank of China began offering yuan-deposit accounts in New York insured by the Federal Deposit Insurance Corp.

Allowing Chinese companies to do cross-border settlements in yuan will free them from having to undertake costly foreign-exchange transactions. They will no longer have to bear the exchange-rate risk created by the fact that their revenues are in dollars but many of their costs are in yuan. Allowing Chinese banks, for their part, to do international transactions in yuan will allow them to grab a bigger slice of the global financial pie.

Admittedly, China has a long way to go in building liquid markets and making its financial instruments attractive to international investors. But doing so is central to Beijing's economic strategy. Chinese officials have set 2020 as the deadline for transforming Shanghai into a first-class international financial center. We Westerners have underestimated China before. We should not make the same mistake again.

Finally, there is the danger that the dollar's safe-haven status will be lost. Foreign investors—private and official alike—hold dollars not simply because they are liquid but because they are secure. The U.S. government has a history of honoring its obligations, and it has always had the fiscal capacity to do so.

But now, mainly as a result of the financial crisis, federal debt is approaching 75% of U.S. gross domestic product. Trillion-dollar deficits stretch as far as the eye can see. And as the burden of debt service grows heavier, questions will be asked about whether the U.S. intends to maintain the value of its debts or might resort to inflating them away. Foreign investors will be reluctant to put all their eggs in the dollar basket. At a minimum, the dollar will have to share its safe-haven status with other currencies."
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What ramifications do you see this bearing on markets, companies, households, even governments?

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Comments (5)

  • Ske7ch's picture

    I remember America invaded one country that tried to sell its commodity in euros.

    The USD is king.

    - Bulls make money. Bears make money. Pigs get slaughtered.
    - The harder you work, the luckier you become.
    - I believe in the "Golden Rule": the man with the gold rules.

  • non-target's picture

    I am waiting to see what happens with the unrest around the world before making a concrete assessment of the dollar's fate. Especially w/Saudi Arabia and China, as they are the two largest forces driving dollar demand through oil and exports, respectively.

    I read this article before and one thing the author overlooks is the fact that yuan is pegged to the dollar, and unless it transforms the reliance on the American consumers into domestic consumers, I really don't see a transition happening. With regards to the euro, it's the race between two ugly sisters, and the dollar is unified under a federal gov't rather than a broken system in Europe with Germany calling most of the shots.

    For the dollar bear I want to leave you with this for thought, http://www.stansberryresearch.com/pro/1011PSIENDVD...

  • trazer985's picture

    I agree with your points but not with the real competition part. Investors will not trust the RMB with chinas ability to control the inflation rates, and the euro is a joke. USD doesnt have to be strong, it just has to be strong enough to not be completely unsafe. The only event that will cause a shift away from the USD is if the US Government defaults on a loan to China or similar.

  • TNA's picture

    I am sure the Dollar might one day be replaced, but not right now.

    The Euro is too new and not enough of it out there.

    The RMB does not float and is too contained.

    Outside of those two, who else?

    Other than pride, I don't see the big deal with the USD being the dominant currency. China might be growing by leaps and bounds, but it has massive problems underneath the surface. Europe is relatively stable, but this whole Greek crisis has really highlighted how fragile this union is.

    For at least the next 20 years the USD is safe. Maybe longer.

  • APAE's picture

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