Blog

Dolla dolla bill y’all

Blog

Dolla dolla bill y’all

The U.S. dollar is the undisputed heavy-weight currency champion of the world. By any metric, the buck still stops with the buck. Official foreign exchange reserves? The USD share is 58 percent. Allocated reserves by currency? The USD share is 62 percent. The USD share of international payments is 45 percent (the euro share is an impressive 34 percent but has been declining for the last two years while the Chinese yuan is stuck in a rut.) A recent IMF study concluded that the USD’s “dominant role” in global trade can also be observed in the fact that the share of global exports invoiced in dollars is much larger than the share of exports destined to the U.S.

It is no wonder, then, that China is getting anxious that the U.S. government might use the power of the dollar to cripple China’s economy. A People’s Bank of China (PBoC) economist told Reuters last week that the trade war was becoming a financial war, and that “the most lethal tactics have yet to be used.” Yu Yongding, a former member of the PBoC’s monetary policy committee, said it was becoming difficult for Chinese policymakers to predict U.S. moves. The starkest warning came from Guan Tao, chief global economist at Bank of China International, who wrote that China must prepare for the U.S. to “expel China from the dollar settlement system.”

That’s a marked shift from even last month, when Chinese officials were telling the media that the U.S. would not declare a financial war on China because such a conflict would be “highly complicated and impractical” and would in practice amount to little more than the U.S. “shooting itself in the foot.” But then, much has happened in recent weeks. As we covered in our last installment, the U.S. government is now targeting Chinese tech companies like Bytedance and Tencent. The U.S. dispatched the most senior U.S. government official to visit Taiwan in 41 years to the island and is even discussing selling subsea mines and cruise missiles. And all this on top of a renewed emphasis on the “Clean Network program” and the litany of anti-Huawei measures and Hong Kong-related sanctions passed in recent months.

In the past, China could ignore fringe policy suggestions from U.S. politicians like Senator Pat Toomey, who is on record saying that he wants the U.S. government to use the USD as a “tool” (read: weapon) to be used against the Chinese economy, or Senator Marsha Blackburn, who wants the U.S. to “cancel” its sovereign debt to China (read: default on over $1 trillion worth of Chinese-held U.S. Treasury bonds).

Now, China has no choice but to consider worst-case scenarios. Even if the Trump administration was not fighting for its life in a contentious presidential campaign against a Democratic ticket now featuring Joe Biden and Kamala Harris (a ticket that resulted in a $26 million surge in campaign contributions and led to a “sigh of relief” on Wall Street), this U.S. government has shown it does not much care if U.S. consumers and businesses are part of its trade war’s collateral damage. Mutually assured destruction does not work if one side is impervious to the consequences of destruction. The chorus of voices surrounding the president who want even more aggressive steps, like undermining Hong Kong’s peg to the U.S. dollar, are singing somewhere between forte and fortissimo. Anti-China sentiment is one of the few things all Americans seem to agree on these days, giving President Trump even more incentive to push harder. Indeed, it may be the only bipartisan issue he’s got.

Besides shower heads, of course.

China is scrambling as a result. Unseating a global reserve currency is the sort of process that happens over decades, not years, and usually has more to do with the decline of the dominant power than the rise of a challenger. (That’s how it worked in the past with the Dutch guilder and the British pound sterling, in any case.)  Even so, China has to start somewhere. China announced earlier this month, for instance, that it is waiving transaction fees between the yuan and 12 other currencies, including the Singapore dollar, the Russian ruble, and the Korean won. (Noticeably absent from the list: the USD, the euro, and the Australian dollar.) China is pushing Belt and Road countries to use the yuan, is slowly but surely boosting the yuan’s international status via the trading of yuan-denominated crude oil futures, and is expanding tests of a new, PBoC-backed digital currency throughout the country.

Is any of this going to work? In a single word, no, at least, not anytime soon, and not without a lot of other things happening too. The USD is not likely to be supplanted as a global reserve currency for the foreseeable future. That does not mean, however, that the status quo is impervious to change. The USD became the global reserve currency because the U.S. had the most open, productive, and reliable economy in the world. Yes, the petrodollar had something to do with it, but if that was the only reason the USD became king, then China and India – which are far more dependent on Middle Eastern oil imports these days than the U.S. – would be embroiled in a yuan v. rupee cage-match for future dominance. The USD’s power derives from its wide usage, from its being backed by the full faith and credit of the U.S. government, and from the productivity and creativity of the millions of Americans who power the U.S. economy.

This does not mean the U.S. can just use the USD willy-nilly however it wants. The USD enjoys its current status precisely because the U.S. stopped using the USD willy-nilly however it wanted. Gone are the days when a U.S. President might declare, as William Howard Taft did in 1912, that U.S. foreign policy would simply substitute bullets for dollars in order to achieve its ends. Or at least, they were supposed to be gone. 

Some of the more radical ways the Trump administration is considering weaponizing the U.S. dollar to cripple China are little more than 21st-century updates to early 20th-century dollar diplomacy when U.S. imperialism was still en vogue. Back then, the U.S. was still a fledgling power experimenting with using its economic might to subjugate Latin America. (Taft again: “The whole hemisphere will be ours in fact as, by virtue of our superiority of race, it already is ours morally.” #yikes) The dollar became a global reserve currency only after the U.S. outgrew this adolescent cruelty. The irony of embracing these sorts of tools again in order to combat “Chinese imperialism” seems wholly lost on U.S. leaders.

The fact that the USD is a global reserve currency confers immense structural power and influence on the United States. In the past, the U.S. has used that structural power and influence (at times more successfully than others) in order to further its foreign policy objectives. There is a difference between using the byproducts of the USD’s dominance and manipulating the USD itself for geopolitical gain. Short of crippling near-universally loathed rogue regimes like North Korea and Iran, the U.S. has refrained from using the USD as a weapon of great power competition. The long-term benefits of being a global reserve country have generally outweighed any short-term benefits to be gained from manipulating the dollar for geopolitical ends. The U.S. dollar’s status today is a symptom of U.S. power, not a weapon of last resort. It is a reward for past performance and faith in (relatively) good future behavior.

Is the U.S. in danger of losing that trust? Even before the destructive U.S.-China trade war, there were calls for a new global reserve system that did not rely on the USD that would allow for the “better pooling of reserves at the regional and international levels” and “permit the emission of international liquidity to create a more stable global financial system.” Of course, that sort of system was more of a globalist fantasy than a realistic possibility even in 2010, when a U.N report suggested it. In today’s geopolitical environment the suggestion seems even more fantastical. The underlying point, however, is that a global reserve currency only remains global if it is stable and reliable. There is nothing stable, reliable, or predictable about the U.S. these days. Washington is placing tariffs on enemies and allies alike – all to put “America First.” It is upending global supply chains, tuning out the bottom-lines of U.S. multinationals, and crippling its farmers. Even The Economist is beginning to wonder aloud if China, not the U.S., is “on the world economy’s leading edge.”

For those taking solace in a Biden administration restoring balance to the force, think again. Yes, Biden may be able to enforce some much-needed rationality on U.S. economic and foreign policy. (Assuming he wins, of course, which is by no means a foregone conclusion.) But Biden cannot shrink the ever-increasing piles of U.S. government debt, the widening gyre of U.S. wealth inequality, and the lingering global bad taste left by the last four years overnight, or even in one term. Besides, as Trump’s victory in 2015 showed, U.S. electoral politics is inherently unpredictable and ripe for populist demagoguery at contentious and divided moments such as these. If Trump loses in 2020, what’s to stop Ivanka from running in 2024 to avenge her father’s defeat? Or if Trump wins, what’s to stop a real Socialist from arising on the left (as opposed to the rather pale neoliberal imitations that, even in their diluted state, send such cold shivers down Republican spines)?

The only thing underpinning the U.S. dollar’s status right now seems to be that there is not a better option available. That’s not a recipe for long-term success because sooner or later a viable option will emerge. Whether that is some kind of new, idealized global currency or the yuan or the rupee or some as yet unimagined currency who can say? In the short-term, King Dollar is here to stay. However anesthetizing a macro-strategic argument that makes at dinner parties (remember those before COVID-19?) or on social media, it is decidedly of little comfort to the businesses and individuals who are in the trenches of a budding U.S.-China financial war, especially in key sectors like energy, food, and high-tech products. Just as Huawei is “de-Americanizing” its supply chain, China will start “de-dollarizing” its financial system and other countries may look for alternatives as well if the U.S. keeps on this path. It won’t happen fast, and it won’t happen overnight. The last to know will probably be whoever is occupying the Oval Office. To paraphrase an old Yuan Dynasty proverb, the hills are high – and the President’s ears are full of hair.

END