ANALYSIS

 

The US Dollar: The Long Farewell?
Hello to the euro, goodbye to the dollar

By GWYNN DYER

LONDON — It's just straws in the wind so far. India's Ministry
of Culture announces that foreign tourists can no longer pay in
dollars when visiting the Taj Mahal and other heritage sites;
they have to pay in good, hard rupees. Iran and Venezuela call
for a joint OPEC statement on the weak dollar, and Saudi Arabian
Foreign Affairs Minister Saud Al-Faisal warns that any public
reference to the dollar's problems could cause the troubled currency
to "collapse." Rap star Jay-Z's latest video shows our hero flashing
a wad of euros, not dollars.

Only straws in the wind, but all in the past couple of weeks.
For the majority of Americans who do not travel abroad, the only
visible effect so far of the dollar's steep fall has been higher fuel
prices at the pump. The Chinese imports that fill the big-box stores
still cost the same, because the Chinese yuan is still pegged to the
dollar. But that may be about to change, along with many other
things.

At the beginning of 2003, one euro bought one dollar. Eighteen
months ago, it bought $1.20. Now it is pushing $1.50, and there
is no reason to think that it will stop there.

Three of the world's biggest oil exporters, Iran, Venezuela and
Russia, are demanding payment in euros rather than dollars. Last
week a Chinese central bank vice director, Xu Jian, gave voice to
the suspicion of many others, saying that the dollar was "losing
its status as the world currency."

If that happens, then America loses a great deal. Other countries
have to maintain large reserves of foreign currencies — most of
which they keep in dollars — to cover their foreign debts, but the
United States can pay its huge foreign debts in its own money.
If necessary, it can just print more dollars. Having their own money
as the world's reserve currency confers advantages that Americans
would miss if they lost them.

Foreign wars and deficit financing behind collapse

The main reason for the collapse of the dollar is President George
W. Bush's attempt to fight expensive foreign wars while cutting
taxes at home. This involved deficit financing on a very large scale,
and inevitably the value of the dollar began to fall — slowly at first,
but with increasing speed as it became clear that the White House
did not care.

"Ronald Reagan proved that deficits don't matter," as Vice President
Dick Cheney told then-Treasury Secretary Paul O'Neill.

But they do matter to foreigners. As the dollar fell in value, the price
of oil (which is usually calculated in dollars) rose to compensate for it,but there was no comparable adjustment for foreign central banks
that had huge amounts of dollars in their reserves. China, which was
sitting on about a trillion dollars, simply lost several hundred billion
as the currency's value fell. So various central banks started wondering if they should diversify their reserves, and some acted on it.

The downward pressure on the dollar will continue, because the US
is currently borrowing 6 percent of its gross domestic product from
foreigners each year to cover its trade deficit. Foreign banks were
happy to go on lending so long as they had faith in the integrity of
US financial institutions, but that has been hit hard by the subprime
mortgage crisis. Besides, other markets, notably China and India,
now offer a better return — and Congress' resistance to foreign
takeover bids, combined with tighter visa restrictions, make the US
a less welcoming place for foreign investors.

Alternatives to the dollar

Above all, there are now alternatives to the dollar. The last time it
faced a comparable crisis was in 1971, when a different Republican
president was trying to run another unpopular war without raising
taxes. Richard Nixon devalued the dollar and demolished the Bretton Woods system that had fixed all other currencies in relation to the dollar, inaugurating the current era of floating exchange rates.

There was no other candidate then for the role of global reserve
currency, so the dollar stayed at the center of the system despite all
the turbulence. This time, by contrast, there is the euro, the currency of an economic zone just as big as the U.S., with the Chinese currency as a possible long-term rival. But nothing is likely to happen very fast.

The last time the world went through a change like this, it took over
40 years to complete. Before World War I the British pound reigned
supreme, accounting for 64 percent of the world's currency reserves
and 60 percent of all international trade. Britain then impoverished
itself in two world wars, but the dollar did not fully replace the pound until the 1950s.

Today the dollar accounts for 70 percent of both international trade
and currency reserves, but it is probably starting down the same road. Many countries are replacing part of their dollar reserves with a basket of other currencies, and those who have pegged their currency to the dollar are starting to cut loose from it: Kuwait has already done so, and the United Arab Emirates is actively considering it. If China unpegs, things will move a lot faster, but in any case the long farewell
of the dollar has begun.

November 28, 2007

Gwynne Dyer is a London-based independent journalist
whose articles are published in 45 countries.