Here at The Price Group, we like to say history never repeats itself but it often rhymes. Because of this, we are students of financial history and like to share our findings with clients and our other readers. Recently, we have received more questions than normal about the dollar’s role as the world reserve currency and also the viability of the U.S. dollar maintaining this important status. We thought it helpful to share some background on this important topic.
What Is The World Reserve Currency?
A reserve currency is a currency held in significant quantities across the globe. This currency is what is used to conduct international trade and financial transactions which significantly drives down the costs of settling transactions involving different currencies. The benefit of being the world’s reserve currency are lower exchange rate risk and also greater buying power. According to International Monetary Fund data as of December 2022, approximately 60% of all foreign bank reserves are denominated in U.S. dollars, 40% of the world’s debt is in U.S. dollars, and over 90% of all financial transactions across the globe are completed in U.S. dollars.
500+ Years of A World Reserve Currency
Since 1450, there have been six major world reserve currency periods. Portugal (1450–1530), Spain (1530–1640), Netherlands (1640–1720), France (1720–1815), Great Britain (1815–1920), and the United States from 1921 to today. If you notice, the currency span is about 80 – 110 years. The U.S. dollar presently has been the world’s reserve currency for roughly 102 years. The Gold Standard ended completely in 1971, but the U.S. dollar’s reserve status remained.
Reputation & Freedom
The reserve status is based largely on the size and strength of the U.S. economy and the dominance of the U.S. financial markets. Despite our government spending too much money each year, U.S. Treasury bonds remain the safest way to “store” money. The trust and confidence that the world has placed in the United States to pay its debts keeps the U.S. dollar as the world’s reserve currency.
Why does the world trust the U.S. dollar above all other currencies? We would argue that the Constitution plays an important role when answering that question. The rule of law, democracy, and free elections have made America different when compared to other developed countries across the globe. Because of this, the value of the U.S. dollar has been fairly strong and stable relative to other currencies. This is evident during times of financial stress. For example during the 2008/2009 global financial crisis, investment dollars from around the world flocked to U.S. bonds because they were the “safest” investment in the world.
Concerns Moving Forward
The U.S. continues to print too much money… this should not be a surprise to you. If this were only true of America and not other countries, the U.S. dollar’s standing would diminish. As Milton Friedman said, “the more the government is involved, the higher the price of things and the lower the quality.” We think this logic also holds true for the world reserve currency. In 2007, the Fed’s balance sheet was 5% of GDP, today it is more than 30%.
Government involvement in the economy and excessive money creation are two key ingredients for a declining currency. While we are on that path today, most other developed countries are also printing too much and increasing the respective size of their balance sheets… Said another way, no other country or currency has made itself a more viable candidate when compared to the U.S. dollar over the past few years. The world as a whole is printing too much money.
Will The U.S. Dollar Lose Their Status?
We continue to believe that the America dollar is the “cleanest shirt in the dirty laundry” and NOT on the brink of losing the status as the world’s reserve currency.
Could another large economy like Russia, China, or Saudi Arabia replace the U.S. dollar? China, Saudi Arabia, and Russia are not free, and the rest of the world recognizes this. A key ingredient to being the world reserve currency is allowing your people and your investors to act freely.
What about the European Union? The Euro has demonstrated that having a basket of currencies has pros and cons. Many economists would say that the Euro did not handle the most recent debt crisis with a passing grade which has negatively affected the currency as of late.
In summary, we believe the U.S. will only keep the reserve currency status as long as it can continue to offer freedom to its citizens and investors while keeping its monetary house in order on a relative basis when compared to other developed countries.
About the Author
Matt Price serves as a Partner and Director for The Price Group of Steward Partners. He resides in Houston with his wife, Emily, their three children and "Fisher" the family golden retriever. Matt studied at the University of Pennsylvania – Wharton School of Business for his Certified Investment Management Analyst (CIMA®) designation after receiving his undergraduate degree from the University of Tennessee - Knoxville. Over the past 11 years, Matt has helped families make high quality, common sense decisions regarding their wealth and their legacy. Matt firmly believes everyone needs a wealth coach!
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The views expressed herein are those of the author and do not necessarily reflect the views of Steward Partners or its affiliates. All opinions are subject to change without notice. Neither the information provided nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. Past performance is no guarantee of future results.
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