Dollar primacy and the web of global responsibilities

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Paul Blustein is an author, journalist, and a senior associate (non-resident) with the economics program at the Center for Strategic and International Studies

Even to well-informed laypeople, the global dominance of the US dollar is a source of perplexity. Claims materialise with regularity that the dollar is doomed to lose its status as the world’s main reserve currency, only to be contradicted by economic data showing the greenback’s continued supremacy in international trade and finance.

For perspective on the dollar debate, the pithiest insight can be gleaned from a character in Marvel comics and films who conscientiously utilises his superhuman strength, agility and web-spinning prowess. I refer to no less an authority than Spider-Man, famed for the adage, “With great power comes great responsibility.”

The greatness of the dollar’s power has been proven repeatedly against other major currencies. Frustrating as it may be for policymakers in Moscow, Beijing, Tehran and other capitals, the dollar’s primacy is all but impregnable, barring catastrophic mis-steps by the US government. No other economy can rival America’s for its capacity to generate safe and liquid assets.

But US complacency about the dollar’s role — or worse, imperiousness — would be seriously misguided. Americans should recognise the applicability of the Spider-Man adage to the dollar, and US leaders should adopt it as an overarching principle for all aspects of dollar policy. Much is riding on how Washington uses the power that comes with the world’s dominant currency. Whether it is wielded responsibly or not should be of profound concern to citizens of the US and other countries alike.

First, heavy-handed use of the dollar as a sanctions weapon — cutting off US adversaries from the dollar-based system without broad backing from the international community — is likely to boomerang. That’s not simply because other countries may devise alternative monetary arrangements for circumventing the dollar or eroding its sanctions potency. Although warnings of such an outcome may be well founded, the prospect that dollar sanctions might be a “wasting asset” can be cited in favour of using the tool while it remains effective.

There are other, more compelling reasons for eschewing the thuggish imposition of dollar sanctions (a prime example of which was the Trump administration’s threat in 2018 to cut off dollar access from European companies doing business with Iran). Unilateral use of the dollar as a tool of diplomatic coercion risks infuriating other countries to the point where US allies will be alienated and adversaries will be provoked into confrontation on other fronts. Even when sanctions are well justified and broadly supported, as they are against Russia, they can inflict severe pain on innocent civilians and draw retaliation that may depress global economic growth and living standards.

Second, the Spider-Man adage comes into play regarding the rapidly-evolving technological innovations that are transforming the world of payments and finance. The paramount goal for the US should be instilling the monetary system of the future with universal values that America has long championed, notably freedom of expression and protection of individual privacy, while simultaneously guarding against abuse of the financial system for illicit purposes. Whether that means a digital currency issued by the Federal Reserve or leaving digital dollar issuance to the private sector, Washington has a special obligation as issuer of the world’s leading currency to take the lead in optimising the difficult trade-offs and influencing choices made in other capitals.

But such is the dollar’s clout that the US has to take care to avoid going overboard. For example, lobbyists for stablecoins (privately-issued digital tokens whose value is almost invariably linked to the dollar) excitedly tout their product as the best way to strengthen the dollar’s reserve currency status, by spreading dollars all over the globe in an instantly-accessible form. This argument appeals to members of Congress anxious about the dollar’s vulnerability to potential rivals. But the result—“currency substitution,” as economists call it — could severely disrupt the ability of foreign central banks to manage their countries’ money supplies if large numbers of their citizens use the dollar as their method of payment. Among officials sounding the alarm is India’s deputy central bank governor, Rabi Sankar, who has called stablecoins “an existential threat to policy sovereignty,” citing the danger that they will undermine use of the rupee.

Third, the dollar’s primacy puts a disproportionate obligation on the US to foster and preserve global financial stability. Some analysts go so far as to contend that the dollar’s status imposes an “exorbitant burden” on the US economy, meaning that the economic costs exceed the benefits. That argument may be a tad extreme, but there is no disputing the frightening degree to which dollar shortages arise during bouts of turmoil such as the global financial crisis of 2007-9 and the Covid-related market meltdown of spring 2020. This makes the world heavily dependent on the Fed to act as international lender of last resort, by providing ample supplies of dollars to central banks abroad.

Finally, note the caveat — “barring catastrophic mis-steps by the US government” — in the passage above about the dollar’s impregnability. The danger of such a mis-step is hardly trivial; although default on US Treasury bonds was averted earlier this year, nobody should discount the possibility of future episodes in which Washington’s political dysfunctionality destroys confidence in US obligations. Nor is it inconceivable that a couple of years from now, the American electorate will have chosen a president who runs total roughshod over rule of law, one of the bulwarks of dollar hegemony.

If only Spider-Man had something trenchant to say on that subject.