Exorbitant Pillage

The U.S. dollar has dominated the global economy for more than seven decades. Roughly 90 percent of foreign exchange transactions today involve the dollar. The overwhelming share of international trade—including 74 percent in Asia and 96 percent in the Americas—is priced in U.S. dollars. Dollars account for 58 percent of central bank reserves held outside the United States. Around the world, private holdings heavily favor dollar-denominated assets.

Dollar dominance yields important benefits for the United States. It reduces price volatility in U.S. foreign trade, enables Washington to borrow expansively and at relatively low cost, and gives the U.S. government powerful tools for sanctioning its adversaries. And as the renowned economist Kenneth Rogoff convincingly argues in his highly engaging new book, Our Dollar, Your Problem, a dominant currency is incredibly difficult to displace. Inertia is a powerful force keeping the dollar on top; the strength of U.S. political and financial institutions is another. And although numerous countries have chafed against the dollar system, none have offered an alternative strong enough to overcome the dollar’s incumbency advantages. But Rogoff also warns that dollar dominance may have reached its peak, suggesting the United States will need to craft its policies with care if it is to hang on to its privileged position.

Successive U.S. administrations have adopted policies that shored up or at least avoided undermining the dollar’s dominance. They respected the independence of the Federal Reserve and the United States’ international commitments, including its role as steward of the global financial system. The Trump administration, however, is attacking the institutional foundations that underpin the dollar’s status. It is testing the bounds of executive power and receiving little pushback for doing so. It is attempting to weaken the independence of the Federal Reserve’s monetary policy authority and of the government’s official statistical agencies. And it is questioning the United States’ commitments to its allies and partners.

The Trump administration is taking these steps at the same time that it is introducing policies whose sustainability depends on maintaining the dollar’s privilege, particularly the massive spending bill President Donald Trump signed in July and which is projected to astronomically increase the U.S. national debt in the next decade. If dollar dominance erodes, Washington’s borrowing power erodes, too, and the cost of servicing its debt rises. And if a spike in interest payments on the federal debt combines with a swoon in the value of the dollar, the U.S. government could find its fiscal options constrained in ways that could inflict lasting damage on the economy.

SAFE AT THE TOP?

Using the U.S. dollar allows foreign countries to conduct business all over the world without maintaining balances of multiple countries’ currencies—a convenience that reinforces the dollar’s position, just as the convenience of using English has made it the common language of global communications. Diversifying away from the dollar could come with considerable costs because it could require holding balances of a large number of currencies and managing the risks of exposure to fluctuations in each.

Still, both allies and adversaries of the United States have tested the dollar’s status. As Rogoff explains, however, none of these challengers have had what it takes to become dominant.

Since the advent of the eurozone in 1999, for example, the dollar’s share of foreign exchange reserves has fallen from 71 percent to 58 percent, and the euro has held on to second place, with a 20 percent share. But Rogoff contends correctly that it will be difficult for the euro to displace the dollar unless foreign investors believe euro-denominated official debt markets provide sufficient liquidity, which would require overcoming political and institutional constraints on greater issuance of jointly backed debt.

China and Russia have also become more motivated to seek alternatives to the dollar as the United States and its allies become increasingly effective at using the dollar-denominated payments system to impose sanctions. After Russia’s invasion of Ukraine in 2022, for instance, Washington and its allies limited the access of Russian banks to international payment systems, placed a price cap on Russian oil exports, and froze Russia’s sovereign assets held abroad. China, in part to reduce its own exposure, is now working with partners including Brazil, India, and Russia to develop an alternative payment system using its renminbi, and working with additional countries to set standards for cross-border digital currency transactions, capitalizing on the United States’ absence from this area.

But Rogoff notes that these efforts to internationalize the renminbi and displace dollar-based systems will fall short unless China institutes reforms. Only by liberalizing its capital markets and taking steps to expand and reduce price fluctuations in renminbi bond markets can Beijing give foreign investors confidence that they can liquidate their renminbi assets whenever they need access to cash.

NET BENEFITS

In the 1960s, Valéry Giscard d’Estaing, who would later become the president of France, decried the dollar’s dominant status and the benefits it afforded the United States as an “exorbitant privilege.” Rogoff treats those benefits, as well as the burdens of dollar dominance, in an evenhanded way. Because the United States can borrow from foreigners and pay them back in its own currency, others bear the risk of shifting exchange rates. In practice, this means reduced volatility in the prices of many U.S. imports and exports. As the country issuing the dominant currency in the formal international payments system, the United States has significant visibility into cross-border transactions and powerful means to impose sanctions to impede those flows. Washington also has ample influence over the rules of the international financial system; it is the only member with enough voting power to veto decisions at the World Bank and the International Monetary Fund.

Dollar dominance enables the United States to borrow expansively and pay considerably lower interest on its debt than many other countries, a privilege that is particularly important today, when U.S. government debt is high and rising. Washington can borrow relatively cheaply because foreign investors are willing to pay a premium for the “convenience yield” of U.S. government bonds. These safe, highly liquid assets have been in strong demand because they can be relied on to hold their value in times of financial stress and are the dominant form of collateral underlying many international financial transactions. Rogoff highlights recent estimates that the U.S. government saves $140 billion each year in international debt service costs as a result of the lower interest it is able to pay on its borrowing—a figure that may be as high as $600 billion per year including payments on debt held by domestic investors.

If the dollar falls from its pedestal, Americans will pay the price.

The dollar’s reputation as a safe asset typically means that demand for the currency surges during times of financial stress. The United States, therefore, can borrow a lot of money even amid an economic crisis. During the 2008 global financial crisis and the 2020 downturn amid the COVID-19 pandemic, for instance, the U.S. government was able to cushion the effect of economic shocks on American businesses, workers, and households and ensure a more rapid recovery compared with other countries.

Yet dollar dominance is not entirely advantageous for the United States. Rogoff notes that historically, countries with dominant currencies have typically been those with leading military power—and being a military superpower is extremely expensive. He also argues that the practice of temporarily swapping dollars in exchange for foreign currency from a few major central banks in moments of financial crisis represents a burden for the United States. But this is not an obligation of dollar dominance; it is a courtesy extended by the Federal Reserve. In the rare instances that these swaps have been used, such as during the 2008 financial crisis and at the start of the pandemic, they have boosted U.S. financial stability without incurring any actual cost.

Perhaps the most politically salient burden has been the competitive disadvantage of American manufacturing businesses and workers during periods when the U.S. dollar was particularly strong. From 2000, the year before China’s entry into the World Trade Organization, to 2005, for instance, China did not allow the renminbi to rise in value against the U.S. dollar in nominal terms, despite a threefold increase in China’s exports to the United States. This combination had devastating, long-lasting effects on jobs and manufacturing in factory towns across the United States. Still, it was not dollar dominance itself that brought about these losses but the combination of Chinese industrial policies, trade policies, and currency intervention and the failure of U.S. officials to effectively counter those practices.

CRACKING THE FOUNDATIONS

On the whole, Americans stand to gain from preserving the dollar dominance that has endured over the past seven decades. Continued dominance requires that U.S. dollar securities remain attractive to foreign investors. Underlying that attractiveness, Rogoff emphasizes, is the strength of U.S. institutions and norms: an independent Federal Reserve, the rule of law, and a record of reliable international engagement. U.S. institutions guard against high inflation, which could reduce the value of claims; protect creditor rights; preserve access to capital markets; and maintain strong creditworthiness. Those foundations have protected the dollar’s status even as U.S. policy has fluctuated and foreign challengers have emerged.

The expectation that dollar dominance will persist is based on assessments of both the advantages of incumbency and the resilience of U.S. institutions. The trouble is that Our Dollar, Your Problem ends with the November 2024 U.S. election, so it does not engage with the steps Trump has taken in his second term that may challenge those assumptions.

For one, the Trump administration has unilaterally raised tariffs on U.S. imports to levels not seen since the 1930 Smoot-Hawley Tariff Act, perhaps to offset some of the tax revenue losses from its July spending bill. Secretary of the Treasury Scott Bessent has promised “several hundred billion dollars a year of revenue, which will correlate to several hundred billion less [in] bonds that the Treasury has to issue.” To date, country-by-country tariffs have risen to an average effective rate of about 17 percent, which amounts to a nearly eightfold increase in tariffs since last year. U.S. allies have not been spared: even the United Kingdom, a close partner with which the United States runs a trade surplus, is facing ten percent tariffs.

The administration’s unilateral action ignores Congress’s constitutional power to set tariffs. Already, a federal appeals court has found Trump’s blanket tariffs to be an overreach of executive authority under the 1977 International Emergency Economic Powers Act. Because the administration also imposed tariffs without regard for existing U.S. trade agreements, it has raised doubts about the credibility of the U.S. government’s international economic commitments—an important underpinning of faith in the dollar system.

The Trump administration, furthermore, has repeatedly questioned the Federal Reserve’s independence in setting monetary policy. For foreign investors to remain willing to invest heavily in low-yield Treasury securities, they must have confidence that the United States will not inflate away the value of their claims. The independence of the central bank is vital to that confidence. Rogoff makes a compelling case, drawing on his own seminal research, that U.S. Treasuries are considered safe assets in part because the Fed has maintained its political independence and has a record of delivering mostly low and stable inflation since the mid-1980s.

The risk of higher inflation and higher unemployment that accompanies the Trump administration’s tariffs has put the Federal Reserve’s monetary policymaking committee in a tough spot. The president has criticized the Federal Reserve for not lowering rates fast enough and threatened to fire the Federal Reserve chair. He also fired a Federal Reserve governor without due process, although a district court and a federal appeals court have blocked the move, and appointed a new governor who is concurrently a member of the White House staff on leave of absence—both historical firsts. All of this amounts to an unprecedented attack on the independence of the institution. Trump has explained that he believes the Fed must lower rates to cut interest payments on the national debt (which his July spending bill will increase), claiming Powell could deliver “almost a trillion dollars in saving just with a stroke of a pen.” If investors believed the Federal Reserve would prioritize debt management over its statutory mandate to fight inflation, however, they would demand higher yields on Treasury securities to compensate for higher expected inflation, and federal interest payments would go up—not down.

Similarly, after the Bureau of Labor Statistics released a July employment report showing weak job growth, Trump fired the agency’s Senate-confirmed head. Such actions threaten the institutional independence of official statistical agencies and the integrity of the data they produce. Investors’ confidence in the strength and safety of the dollar, meanwhile, depends on their confidence in the quality of U.S. government statistics used to assess the state of the U.S. economy and financial system.

PLAYING WITH FIRE

Worryingly, all of this is happening just when the administration’s new law is adding more than $4 trillion over ten years to the U.S. national debt. U.S. debt is already about 100 percent of GDP, and the costs of interest on the debt are rising each year. As the Trump administration plans to borrow even more, its attacks on the foundations of dollar dominance may jeopardize the advantages that come with ready demand for U.S. Treasury securities, including savings of more than $1 trillion in debt service payments over the course of a decade.

Initially, financial markets reacted sharply to the administration’s aggressive, unconventional moves to raise tariffs or threaten the independence of the Federal Reserve: longer-term U.S. Treasury yields jumped—increasing the cost of borrowing for the U.S. government—and the dollar lost value.

In response, the administration softened its actions. On April 9, just a week after Trump’s so-called Liberation Day announcement of sweeping tariffs saw Treasury yields spike, the dollar weaken, and the stock market sink, the president paused the rollout for 90 days. After Trump posted on social media on April 17 that “Powell’s termination cannot come fast enough!” and Kevin Hassett, the director of the National Economic Council, said publicly the next day that the administration was exploring options to make that happen, the U.S. stock and bond markets reacted in the same way, and the dollar fell again. Trump made another pivot on April 22, stating that he had “no intention of firing” Powell.

Yet it is folly to bet on the alternatives to the dollar being so inadequate that Washington can continue to flout long-established norms and commitments without consequence. Although there may not be a single currency that has all the necessary attributes to displace the dollar, there is still considerable risk that the centrality of the dollar could diminish over time. Already, the dollar’s share of global reserves has fallen by more than ten percentage points since 2000. Innovation in finance and payments is developing rapidly, and challenger countries are working hard to craft alternatives to the dollar-­based system.

The case for maintaining the dollar’s privilege is stronger than ever, as ballooning deficits make it imperative to keep debt service costs low. Washington’s strategy of using sanctions to further its national security interests, moreover, requires access to the financial tools that the dollar’s position affords. If the current administration carries on with its attacks on the independence of the Federal Reserve and official statistical agencies and continues to undermine the credibility of the United States’ international commitments, it could erode the dollar dominance on which so much of U.S. domestic and foreign policy depends. The dollar is not invulnerable, and now is not the time to make bad choices and count on good luck alone. If their currency falls from its pedestal, Americans will pay the price.