The daily fluctuations in the U.S. dollar are not typically high on most people’s list of things to watch, which is generally a sign that all is well. But it is increasingly evident that all may not be well with the dollar in the longer run given our current trajectory, which could have very negative implications for American prosperity.
The value of the dollar compared to other global currencies fell by nearly 11% between New Year’s Day and June 30. That is the sharpest half year decline since 1973, when President Richard Nixon ended the gold standard. And while it is possible that the drop is merely a cyclical fluctuation, there are significant headwinds in play that could spell trouble for the dollar’s dominance in the longer run.
The favored status of our currency conveys unique advantages. The dollar’s reign as the global reserve currency has inevitably eroded over the past 25 years as other nations and trading blocs have increased their share of global wealth. Yet the sharp decline this year and the increasing volatility in the U.S. bond market have caused other nations to accelerate consideration alternatives.
A reserve currency is a foreign asset held by a nation’s central bank or used frequently in trading relationships. Exporting nations can accumulate large dollar reserves over time. Countries also maintain stocks of foreign currencies to manipulate the value of their own currencies.
Reserve status is historically linked to geopolitical and military power dating back to the Portuguese, Spanish, French and Dutch commercial empires. The economic hegemony of the British Empire in the 19th century gave way to the American Century and the U.S. dollar in the 20th.
Several conditions are necessary to attain reserve status. The issuer must have deep and liquid capital markets including a large bond market with open access to foreign investors. Political stability as well as a developed and consistent legal system are essential. A reputation for fiscal responsibility is also critical. Few nations in the postwar period other than the U.S. have met all these conditions.
As the lone surviving superpower, the U.S. hosted a conference at Bretton Woods, New Hampshire, in 1944 tasked with stabilizing the global monetary system. The Bretton Woods Agreement effectively anointed the Greenback as the world’s reserve currency, in exchange for U.S. leadership in maintaining global stability and protecting the sea lanes necessary for trade.
The postwar supremacy of the dollar gave the U.S. an extremely profitable advantage. In 1965, the French finance minister derided the dollar regime as America’s “exorbitant privilege.” Nixon’s Treasury Secretary John Connally acknowledged as much in 1971, ribbing his European counterparts: “The dollar is our currency, but it’s your problem.”
America’s exorbitant privilege remains largely intact: 88% of all foreign exchange transactions have the dollar on one side and most of the debt issued around the world is still dollar denominated. But cracks in dollar supremacy are widening.
The dollar’s share global central bank reserves has declined from 73% in 2001 to 59% today. The perception of the U.S. as the ultimate safe haven and guarantor of global stability is eroding, and with it the veneer of dollar invincibility. Central banks are increasing their holdings of gold in lieu of dollars, which largely explains the surge in the price of precious metal over the past few years.
Chaotic and unpredictable tariff policies, including punishing levies on imports from our closest allies and trading partners as well as uninhabited islands, have dented U.S. credibility. According to Forbes, the president has shifted or reversed his own tariff pronouncements 28 times, often contradicting his own trade advisor, commerce secretary and secretary of the Treasury.
Challenges to established norms and the rule of law are also dampening investor confidence in the American legal system, a cornerstone of dollar dominance. The president’s insults directed at the chairman of the Federal Reserve certainly do not help.
In fact, it was not the sharp stock market selloff that prompted President Donald Trump to temporarily rescind the April 2 “Liberation Day” tariff barrage, but rather a spooky selloff in the government bond market. Investors were casting a vote of no confidence in dollar stability. One month later, Moody’s downgraded America’s credit rating.
But administrations come and go and with them ebbs and flows in foreign relations. More alarming is the increasing doubt that America can be responsible with its pocketbook.
The national debt has exploded from $4 trillion in 2000 to $29 trillion today and was already projected to reach nearly $50 trillion by 2034. The One Big Beautiful Bill will add at least $4 trillion more by 2034, exploding the debt from around 99% of GDP to nearly 125% in nine years. And these projections assume no wars, pandemics or financial crises in the interim. No nation in history has climbed unscathed out of a hole so deep.
Deepening uncertainty over America’s trajectory are accelerating the move to trade in other currencies. Global commodities like oil and wheat, traditionally priced in dollars on global markets, are increasingly being invoiced in Russian rubles or Chinese renminbi. De-dollarization in energy markets provides a massive boost to China and India, allowing them to purchase discounted Russian oil in contravention of Western sanctions. Ultimately, if enough investors lose confidence in U.S. Treasury bonds, interest rates will rise sharply, including mortgage and auto loan rates, and the cost to finance the surging national debt will sink the next generation.
The dollar appears relatively safe for the moment, but the clock is ticking, and the rest of the world is not standing still. The exorbitant privilege has allowed the United States to borrow profligately for a long time, but the bill will come due one day, most likely suddenly as crises are wont to appear. On the other hand, the tocsin has been sounding for some time, but our historic exceptionalism has delayed the reckoning. With other nations now questioning that exceptionalism, the reign of King Dollar could end in our lifetime.
Christopher A. Hopkins, CFA, is a co-founder of Apogee Wealth Partners in Chattanooga.
