Is the U.S. Dollar in Danger?

The U.S. is sitting on top of a?horizontal empire, capitalism’s self-organizing, incentive-based structure with its layers of value. It’s not the Marxist mushy mantra of “to each according to his needs.” You gotta earn your spot. Think of the U.S. dollar as the thread or even the duct tape that binds the layers together. Nearly 60% of the $12.8 trillion in world-wide currency reserves are dollars. Is America’s “exorbitant privilege”—the almighty dollar as the world’s leading reserve currency—under threat? Should you even care?

Sanctions have hit Russia hard. A huge chunk of its $630 billion in foreign reserves are frozen. Oligarchs’ yachts have been seized. Visa, Mastercard and?American Expresssuspended service in Russia.?Apple?and Google Pay stoppage stranded cashless travelers on Moscow’s metro. From?Netflix?to?Nike,?voluntary sanctions are in force.

Was cutting Russia out of the global financial system the right move? In the short term yes but some naysayers think this is the beginning of the end of the dollar as the reserve currency because Russia will cozy up to China and adopt the yuan or pivot to cryptocurrencies. China may start dumping dollars. In fact, since 2014 China and Russia have severely reduced their dependence on the dollar for bilateral trade.

The dollar has been the world’s reserve currency since the Bretton Woods Agreement in July 1944, with the dollar pegged to gold and other allied currencies pegged to the dollar. This wasn’t some bureaucratic pronouncement. The U.S. was in a position of strength after funding the allied effort in World War II. America almost lost this privileged status in 1971 when deficits from war and welfare led President Richard Nixon to drop the gold standard.

Today countries still keep America’s virtual Benjamins in their virtual bank vaults—modern banking’s gold. China has more than $1 trillion in Treasurys. Russia has about $100 billion in dollars of about $500 billion in their increasingly frozen foreign exchange.

But why do these countries keep dollars? What backs the currency? The conventional answer is the “full faith and credit” of the U.S. government. Ha, that and $3.65 will get you a Starbucks?grande latte, though not in Moscow anymore. What really backs the dollar is the future tax-generating ability of America’s growing productive economy and a defense structure to defend that economy’s strength. Without that, there’s no horizontal-binding duct tape.?

South Korea, Thailand, Indonesia and especially Russia learned this the hard way during currency crisis of the late 1990s. They didn’t keep enough foreign reserves to protect their own currencies after overextending credit and bank loans denominated in dollars came due. Argentina, Venezuela and Zimbabwe learned this too.

China, like Russia, has per capita gross domestic product slightly above Mexico—about one-sixth of the U.S. China’s yuan value is based on its economic growth continuing, now forecast at only 5.5% for 2022. While China needs to keep assembling more iPhones, toys, shoes and grills for global customers, it is struggling to move up to higher horizontal layers.

Whatever China holds in Russian rubles has lost more than 40% of its value in mere weeks. Ouch. If Russia or other countries hold yuan, they risk a similar devaluation if, say, China gets squeezed by sanctions for invading Taiwan. China and Russia should be wary of the mutual delusion of backing only by the ruble and the yuan. And if you're bearish on cryptocurrencies you would hope Russia does load up on crypto, with an eventual decline of which may make the ’90s currency crisis seem like a picnic.

As Ben Franklin might tell today’s U.S. leaders, “You have the reserve currency status, if you can keep it.” What to do? The Federal Reserve should solidify the dollar by raising interest rates pronto. Treasury Secretary Janet Yellen needs to shout “a strong dollar is in our national interest” from the mountain tops. Ending fiscal deficits would also help by creating a bidding war for outstanding Treasurys. U.S. companies need to update complacent supply chains. If products like medications and iPhones come only from China, that’s a problem. Because of this, the Biden administration should quit the union-loving “Buy American” pitch we heard in his State of the Union address. Apple can’t assemble iPhones economically in union-heavy Michigan. America’s strength comes from buying goods and services from our allies in lower horizontal layers like Vietnam, South Africa and countries in Eastern Europe. Don’t mess with that.

It’s time for the U.S. to figure out where China or Russia might have even a tiny edge—pharma, genetics, artificial intelligence, cyberwarfare—and create Operation Warp Speed-like programs to stimulate these industries through orders and prepayments, not handouts.

Sanctions on Russia won’t endanger the dollar right away, but historically wars are when transitions occur. America shouldn’t risk its reserve-currency status. Inflation really will run rampant if other countries start dumping U.S. dollars. America’s privilege is worth maintaining—which, of course, is easier said than done.

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