It was after World War II that a plan was formulated in Bretton Woods by the developed countries of the world to link all foreign currencies to the US dollar which implied that the exchange rate of all currencies will be fixed to the US dollar. The dollar was supported in value with gold and during the inflationary trends of the 1970s, several countries began to demand gold for the value of the dollars that they held, in order to reduce inflation in their respective economies. This prompted President Nixon to untie the dollar to gold but by this time dollar was the most dominant currency of the world and all exchange rates continued to be quoted in relation to the US dollar. In effect, the US dollar began to be treated as the Gold Standard and most global business agreements were denominated in US dollars. Most of the biggest economies of the world began to peg their currencies to the US dollar. Consequently as and when the dollar became weak the profits from exports in these countries declined. It is pertinent to note that most of the larger economies of the world hold substantial US treasuries and if they collectively sell such holdings, a dollar collapse could result.
With the decline of the dollar, people have started talking about its revaluation in terms of the Euro gaining strength and being likely to replace the most powerful currency. The value of the Euro is controlled by the European Central Bank (ECB) which maintains a high-interest rest rate in order to fight inflationary patterns. On the flip side, it is argued that with the slowing down of the US economy the EU economy will also slow down due to which the ECB will have to lower the Euro interest rates which will reduce its value in relation to the dollar thus making both currencies to stabilize (Kimberly Amadeo, 2009). The value of the dollar has been consistently declining over the last six years but it has not reached alarming proportions in fearing a collapse of the currency. It is in the interest of most countries to prevent a dollar collapse since it would drastically reduce the value of the dollars that they hold. In fact, there are many in the US Congress that favor the decline of the dollar since they feel it will assist the economy. A dollar that is weak will reduce prices of exports from the US in relation to the value of foreign goods which would make US products and services extra competitive. The trade deficit had improved with the decline of the dollar in 2007.
Most countries that had been financing the huge current account deficits of the US have in recent years begun selling their reserves of dollars to sustain their respective currencies (Jerome R. Corsi, 2006). Major amongst them are the oil-producing countries which have huge dollar deposits built over the past several years and these nations such as Saudi Arabia and Russia are planning to sell their assets of accumulated dollars to meet losses caused by the crash of commodity prices. This process is expected to continue for some time to the detriment of the US dollar. Secondly, some emerging economies such as India which have accumulated huge foreign exchange reserves from strong capital inflows by way of remittances, software services, and tourism were able to finance their trade deficits with the dollar reserves. India was able to accumulate foreign exchange reserves in excess of $300 billion till May 2008, but with the worldwide slowdown, it had to sell its dollars to prevent its currency from declining which made its reserves decline by $60 billion. Of the dollar reserves left with India, it is expected that more will be sold by the country’s central bank to protect its currency, again to the detriment to the US dollar. Thirdly, developed countries too such as Japan have begun to sell their dollar reserves in order to save the economy from collapsing in the face of the slowdown.
The dollar implication of such actions could be alarming since most countries will be net sellers of dollars in 2009. The US trade deficit continues to worsen and the federal government may be forced to expand its balance sheet by trillions of dollars in monetizing the federal debt in order to save its treasuries, which are the real strength of the US economy during the current difficulties (Dale Franks, 2005). The increasing demand for gold is also becoming a threat for the dollar in signalling an increasing lack of confidence in the currency. The decreasing demand for luxury goods in the Asian markets will increase the trade deficit of China which will reduce its imports from the US which again exerts downward pressure on the dollar. There are just too many bailouts happening in the US and more are expected by way of State government bailouts, unemployment bailout, Pension Benefit Guaranty Corporation (PBGC) bailout, and housing bailouts. These will certainly add to the US budget deficit which is expected to be $438 billion this year.
Surprisingly, the fundamentals that are currently working were the same as those in 1944, although they appear to be operating in the negative sense now. The US has reached a stage whereby it has become excessively dependent due to outsourcing several of its services and importing basic consumer products such as energy and food (Nell Henderson, 2007). It now has the status of being the most indebted nation in the world where every entity ranging from individuals to companies to local, state, and federal governments owe amounts which they possibly cannot repay. The financial markets in the country have become tarnished due to large-scale financial catastrophes, unsystematic bailouts, and unashamed corruption at the corporate level. There is increasing apprehension about the amount of gold actually left in the country’s reserves but the biggest denunciation of the currency comes from the fact that it is no more the force it used to be as compared to its initial glory. The dollar had become invincible in being the reserve currency of the world due to its long-established reliability and history in terms of the increased purchasing power it entailed. Unfortunately, the dollar has now lost such qualities. Everything about the most preferred currency is no longer rosy and the extreme downside in this regard pertains to the fact that there are too many countries sitting over a great amount of the currency which they could put into circulation.
References
Dale Franks, Threats to the Dollar, 2005.
Jerome R. Corsi, U.S. dollar facing imminent collapse? 2006.
Kimberly Amadeo, Power of the U.S. Dollar, or Why the Dollar Won’t Collapse.
Nell Henderson, The Dollar in Decline, 2007, The Washington Post