4 currencies that could replace the US dollar as a reserve currency
The latest IMF official foreign exchange survey shows that the share of US dollar reserves held by central banks fell to 55% in Q1 2021, its lowest level in 25 years.
According to the IMF, this partly reflects the declining role of the US dollar in the global economy in the face of competition from other currencies used by central banks for international transactions.
Below are a few currencies that should give the dollar a hard time:
The euro is already the second largest reserve currency in the world with around 2.5 trillion euros ($ 2.94 trillion) in central banks around the world.
The euro presents itself as an alternative reserve currency due to several advantages:
- Despite the economic mismanagement of a few member states like Greece and Spain, the euro area is, on the whole, made up of healthy and well-regulated economies with a total GDP of 15.6 trillion dollars, which places it slightly above China.
- The European Central Bank (ECB) is considered to be generally governed in a stable and fairly predictable manner. He successfully weathered a dangerous crisis in 2010 by successfully putting in place a bailout and avoiding the dissolution of the euro
On the other hand, there are barriers that can also work against the euro increasing its share of world reserves:
- Since the Governing Council of the ECB is made up of a six-member executive board and the governors of the 19 central banks in the euro area, major conflicts between member states over monetary policy could lead to a freeze or break in governance, which creates a risk compared to the more unitary United States. fed
- Each euro area member state issues its Eurobonds which do not reflect the strengths and weaknesses of the euro area as a whole. This adds to the complexity of using them as reserves
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After the euro, the Japanese yen is the most widely held reserve at $ 692.10 in the first quarter of 2021.
However, with most of Japan’s debt held in the country, the available supply of yen-denominated reserves is limited. As a net exporter, it may simply not have enough international debt for its bonds to serve as global reserves.
One of the reasons for the USD’s status as the dominant reserve currency is that Americans can’t seem to live within their means.
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After the Japanese yen, the Chinese yuan is the most widely held currency in the world, at $ 287.46 billion in the first quarter of 2021.
Over the past 5 quarters, this value has steadily increased from $ 220.33 billion in the first quarter of 2020.
China has been trying to make its currency attractive as a global reserve and trade tool for at least a decade. This is also facilitated by its growing economic size and global political influence.
However, several obstacles stand in the way of the Yuan:
- A global lack of confidence in Chinese political stability and the rule of law, which was highlighted recently by a sudden and widespread crackdown on financial technology by the ruling Chinese Communist Party
- Such interventions and collapses cast doubt on China’s commitment to free markets, its regulatory rigor and, therefore, the fundamental strength of the Chinese economy.
- Tight control over its currency has been a major pillar of its long rise as an economic power, however, this is incompatible with the status of a global reserve.
- Strict controls on capital flows out of China because the Communist Party wants national capital to be invested in China are at odds with reserve currency status since such currency should be freely tradable
Many bitcoin advocates, such as crypto pioneer Nick Szabo, point to unsustainable global debt levels and argue that debt defaults on sovereign bonds will become more widespread during this century.
In this scenario, bitcoin reserves would become a kind of safety net, a “hard” asset that would still be present in the event of a wave of defaults and central banks would look to them.
As a “trustless” currency, bitcoin presents a neutral international medium of exchange allowing countries to trade without strengthening America’s geopolitical influence by relying on it to move value.
In addition, countries in conflict are also expected to hold bitcoins. Adopting bitcoin as a reserve currency still has significant hurdles to overcome:
- The main disadvantage of Bitcoin is its price instability, with daily percentage fluctuations still regularly in double digits.
- Bitcoin would be unattractive for official use in countries that already have their own nominally sound currencies, as this would limit their power to control their money supply.
So, in the final analysis, who is the dollar’s biggest rival?
Short answer; the euro.
It is already a solid second place behind the dollar and builds on a heritage of relatively responsible banking. European political integration, although slow, continues and the ECB could easily issue more Eurozone bonds.
Cryptocurrencies like bitcoin, however, remain the biggest unknown of all.
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