In short, the economies that run surpluses need that dollar-based demand from the United States to make up for their own weak consumption and high savings rates.
China, which accounts for 2.7% of global reserves, is a case in point. For the yuan to become a true reserve currency, China would have to liberalize it.
Such a loosening would result in a decline in the ability of the regulatory authority to control credit, and in relinquishment of control of its capital account and current account.
China would have to be willing to alter its economic framework so that its economy plays the same role as that of the United States. Given China’s current political arrangements, that will not happen. And the dollar will remain dominant.
Moreover, the soft power of the United States is too often discounted. The rule of law, foreign direct investment—with the notable exception of China and Russia—and the dollar’s support of the rules-based order all reinforce U.S. economic and financial power.
Global foreign exchange data
The vast majority of international trades, almost 90%, is invoiced in U.S. dollars or euros, according to a recent analysis by the Federal Reserve Bank of New York.
That corresponds to the 80% of total foreign exchange reserves allocated to the dollar and euro held by central banks at the end of last year. The dollar accounted for 60% and the euro 20%.
China, Russia, India and Saudi Arabia are not in any economic shape to support such a change in the rules-based order.
Despite the global economic growth over the past three decades, the current order is simply not going to change at the scale necessary to supplant the American dollar and the global order it supports.
Only three other economies have some of the qualities needed to support a reserve currency: the eurozone, Japan and the United Kingdom.
But none of those have financial markets with the depth and liquidity to form the backbone of international finance and trade.
In the early 2000s, the percentage of dollar and euro reserves was as high as 90%, with the gradual decline since then most likely occurring because of increased trade among smaller economies and, more important, their reduced reliance on the foreign issuance of debt.
The International Monetary Fund also notes that as stockpiles of foreign currency reserves grow, so does the case for portfolio diversification.
Currencies of smaller economies that have not traditionally figured prominently in reserve portfolios but offer high returns and stability— like the Australian and Canadian dollars, Swedish krona, and South Korean won—account for three-quarters of the shift from dollars.
Other IMF analysis notes that the dollar is the dominant reserve currency by default. The absence of an alternative to the safety of dollar-trade invoicing, international funding markets, and the large supply of guaranteed Treasury bonds suggest that the dollar’s role in the global economy is secure.
