When Donald Trump took office in January, analysts at Goldman Sachs estimated that the economy had a 15 percent chance of entering a recession over the next 12 months. Today, with the world engulfed in a trade war, they see a 45 percent chance. J.P. Morgan puts the risk at 60 percent. Torsten Sløk, the chief economist at Apollo Global Management, a private-equity firm, believes that a contraction is pretty much guaranteed. The situation is unprecedented, at least in modern history. The last time the White House proactively tanked the economy—under the leadership of Andrew Jackson, who gutted the Second Bank and demanded payment for public lands in gold or silver—slavery was legal. The light bulb and antibiotics had not yet been invented, and the Federal Reserve did not exist.
Recessions are miserable, in terms of businesses destroyed, start-ups abandoned, lifetime earnings depressed, and lives lost. Yet a downturn might be the least of the damage done by the second Trump administration. The White House’s confused policy aims and inane policy processes—as well as its disregard for the rule of law and common sense—are leading investors to dump American assets. Stocks, bonds, and the dollar are declining in tandem. The United States’ hegemony over the financial markets is at stake.
In the words of Valéry Giscard d’Estaing, the onetime French finance minister, the role of the dollar as the world’s reserve currency constitutes an “exorbitant privilege” for the United States, a privilege made more exorbitant by Treasury debt’s role as the world’s safe-haven investment. The country can borrow cheaply and power out of recessions quickly because of this privilege. Yet it depends on investors’ trust in American financial institutions and American governance. Trump’s trade war is making people question whether the United States deserves to have its privilege revoked.
The world has hundreds of currencies in circulation, from the millennium-old British pound to days-old crypto scams. None operates quite like the dollar. The greenback is legal tender in the United States and many other countries and territories, including El Salvador and Ecuador. It is commonly accepted in dozens of others, including Somalia, Myanmar, and Bermuda. It is the money of international traders and financiers, as well as of tourists and drug traffickers.
Indeed, nine in 10 foreign-exchange transactions involve the dollar. Imagine that you are a Norwegian importer seeking to purchase goods from a Vietnamese exporter. You might ask the Vietnamese company to accept kroner; the Vietnamese company might request that you send dong. But the transaction would be cheaper and easier using dollars as a “vehicle currency.” Trading kroner for dong costs more than trading kroner for dollars and dollars for dong, because the market for dollars is so liquid. Two in three cross-border corporate bonds are priced in dollars. Many commodities are priced in dollars. And because trade in dollars is so important to foreign countries, their central banks attempt to hold their currencies stable against it.
American debt is no less important to the functioning of the global economy. Foreign companies hold Treasury bonds as collateral. Foreign governments buy and sell them to help manage currency fluctuations. Trillions of dollars of financial instruments are benchmarked to the price of American debt. When another country’s economy falters, its investors pile into Treasury bonds.
This extraordinary thirst for American assets comes with some downsides. The strength of the dollar reduces demand for exports, which contributed to the deindustrialization of Detroit; Youngstown, Ohio; and other cities in the Rust Belt in the late 20th century. The global reliance on it puts the Federal Reserve in the position of acting as the central bank for the world, not just for the United States, opening “swap lines” to stave off currency crises during financial panics. The volume of American debt held by foreign capitals, most importantly Beijing, raises the prospect that a government could dump assets to damage Washington.
Yet the exorbitant privilege is still a privilege. The strong dollar slashes the price of foreign imports for American families. Demand for Treasury bonds bolsters the U.S. stock market and reduces the cost of government borrowing. When a country like Greece or Argentina experiences a recession, its parliament often has to implement an austerity budget to avoid default; when the U.S. goes into a recession, its monetary and fiscal authorities print money, more or less. Dollar dominance also gives Washington leverage in trade deals and a unique capacity to cut terrorists and rogue states off from the world’s financial architecture using sanctions.
The United States did not always have such privilege. Before the dollar and the T-bill, the British consol ruled the world, and before that, the German imperial bond, the Dutch rentin, and the Spanish juros, as the Harvard economist Kenneth Rogoff notes in his extraordinarily well-timed new book, Our Dollar, Your Problem. In the 1970s, some economists believed the Japanese yen might become the reserve currency; more recently, the Chinese renminbi has been suggested for the role. But the United States became a hegemon after the world wars, and has remained a hegemon since: its currency liquid, debt abundant, financial system sound, central bank skilled, markets open, contracts enforced, military power unparalleled, and political system responsive. But has, as Rogoff speculates, the era of the dominant dollar passed its peak?
Even before Trump took office, a subtle shift was under way. The greenback’s share of global foreign-exchange reserves has fallen 9 percent in the past decade. Central banks have picked up more and more gold since the Great Recession. And dozens of countries are developing digital currency systems that could reduce their dependence on the dollar.
Trump seems intent on supercharging the trend. The White House’s global tariff campaign has increased input costs for American firms and dampened the outlook for corporate earnings, erasing $6 trillion from the stock market in a matter of weeks. Companies are slowing down on hiring as consumers face a huge inflationary shock. (The price of shoes is expected to jump 87 percent, and the price of a used car by $3,000.) Forecasters expect a 1.1-percentage-point hit to GDP growth and a 0.6-percentage-point increase in the unemployment rate this year, not accounting for the force of reciprocal tariffs or policy uncertainty.
That uncertainty is acute. The White House has paused higher tariff rates on scores of countries for 90 days to give time for trade negotiators to work out deals. The process is not going well. Trade deals are notoriously slow to hammer out; negotiators for Barack Obama’s Trans-Pacific Partnership engaged in 19 rounds of talks over three years. The Trump administration is in talks with more than 50 countries at once. It failed to reach an agreement with Japan last week, rattling the markets. Negotiations with leaders from the European Union have stalled. Trade officials in several countries have reported that they do not understand what the United States wants, and have been struggling to get their calls returned.
Business leaders are perplexed and paralyzed. Will the existing tariffs remain in place? Will the Trump administration implement additional trade barriers? Will foreign countries band together and pass tit-for-tat levies? Is a recession imminent or already here, if still invisible in the headline economic figures? Executives are struggling to figure out how much to invest, how many goods to stockpile, and how many workers to keep on.
If the jobless rate increases as inflation ticks up, the country might find itself in not only a recession, but a stagflationary recession. Congress could pass a stimulus package to help support families and businesses, but that would lift prices. The Federal Reserve could raise interest rates to get prices down, but that would reduce employment. The scenario would be “challenging,” Jerome Powell, the chair of the Federal Reserve, said earlier this month, with characteristic understatement. “We will continue to do everything we can.”
The markets are not just pricing in the diminished outlook for American and global growth. They are pricing in the fact that the United States seems like less of a haven than it did three months ago. Trump is bullying the Federal Reserve to lower interest rates and threatening to fire Powell, though he has since backed away from the threat. At the same time, the White House is ignoring the courts, impairing federal agencies, impounding congressionally authorized spending, and perhaps violating due process. It is antagonizing the country’s allies and imperiling the freedom and fairness of American elections. Runaway inflation seems more likely than it did before Trump was in office, as does the government defaulting on its debt payments. The policy-making process is in chaos.
All of this has spooked the world’s investors. The bond market seized up after Trump’s “Liberation Day” tariff announcement, as some analysts wondered whether the Fed would have to step in to provide liquidity. The markets sank after Trump harangued Powell on social media. Yields on 10-year government bonds have climbed in recent weeks, and the dollar has fallen against the euro, the yen, and other currencies.
This may, in fact, be exactly what some White House officials want. The country’s “economic imbalances lies in persistent dollar overvaluation that prevents the balancing of international trade,” argues Stephen Miran, the chair of Trump’s Council of Economic Advisers. “As global GDP grows, it becomes increasingly burdensome for the United States to finance the provision of reserve assets and the defense umbrella, as the manufacturing and tradable sectors bear the brunt of the costs.” The end of dollar dominance and the elimination of the country’s bilateral trade deficits will restore manufacturing employment and unleash growth, the theory goes.
Yet the U.S. economy flourished while such imbalances persisted, growing far faster than that of the EU or Japan over the past two decades. Analysts doubt it would flourish if Trump’s trade policies endure. The costs of tariffs to American businesses and consumers are likely to swamp their benefit to domestic exporters. “The broad use of tariffs fundamentally harms our industrial-policy goals,” Kimberley Clausing, an economist at UCLA, told me. “It makes it harder to make things in the United States, not easier,” she explained, because so many manufacturers rely on imported parts. Moreover, technological advances have slashed the number of workers needed for industrial production. There simply are not that many jobs to reshore.
Plus, the end of dollar dominance will come with its own costs. The sinking dollar will reduce families’ purchasing power. Rising interest rates will dampen business investment, depress corporate earnings, inhibit the ability of Washington to engage in stimulus spending, and make it harder for Americans to purchase cars and homes. Meanwhile, the United States might become weaker in international negotiations, and less capable of sanctioning terrorists and drug cartels.
This might not happen quickly or at all, if Trump ends the trade war and leaves the Federal Reserve alone. Millions of firms around the world are accustomed to transacting in dollars; markets for commodities and bonds are priced in dollars. There’s no ready alternative to the dollar and the Treasury bond; the EU remains fractious and China protectionist. But investors are not wrong that the United States has changed, and that American markets might be less safe and less secure in the future. And Americans might miss their exorbitant privilege when it is gone.
