Opinion: Why the US dollar's currency status is shot

By Neville Bennett The world system is still reeling from the effects of the Greater Depression. It effects and consequences are still not obvious, but increasingly it seems that 2008 will mark the beginning of the demise of the US Dollar. The landscape is changing and obviously the depreciating dollar is under pressure as an unsatisfactory trading and reserve currency. But my main purpose is to substantiate the dollar's demise in three particulars: about London replacing New York as the world's financial centre; a 'plot' to introduce a gold-backed currency, and China's building rival commodity exchanges. Gold standard in oil trade? Robert Fisk broke a story in the Independent last week:

In the most profound financial change in recent Middle East history, Gulf Arabs are planning "“ along with China, Russia, Japan and France "“ to end dollar dealings for oil, moving instead to a basket of currencies including the Japanese yen and Chinese Yuan, the euro, gold and a new, unified currency planned for nations in the Gulf Co-operation Council, including Saudi Arabia, Abu Dhabi, Kuwait and Qatar. Secret meetings have been held by finance ministers and central bank governors in Russia, China, Brazil and Japan.

Fisk says the meetings could explain the rise of gold. More importantly, the meetings augur an extraordinary transition from dollar markets in nine years. Fisk is adamant that "the current deadline for the currency transition is 2018". Brazil and India have shown previous interest in non-dollar oil payments, but China is aggressive. Former Chinese Envoy to the Middle East, Sun Bigan, has warned of divisions between China and the US over Middle East oil, saying: "Bilateral quarrels and clashes are unavoidable". This almost implies a future economic US-China war over oil. There are other signs of a struggle with China making long term deals with Iran, Brazil, Venezuela, Sudan, and Libya. Iran at present deals in the Euro; Sadam Hussein proposed to use the Euro but was invaded shortly after his announcement. China and Commodity futures China is issuing an enormous challenge to US hegemony by positioning its futures markets to be major players in setting world prices for metal, energy and food commodities. China feels it will be less at the mercy of world markets, and American speculators, if it lets the world know what it thinks commodities are worth. New Zealanders will appreciate China's concern with being a price-taker. China is the second biggest oil importer but uses the New York Mercantile Exchange's contracts which tend to set the global price. The Shanghai Future's Exchange plans to muscle in and try to set prices too. China will have its work cut out to rival New York, Chicago and London which set benchmark rates for most commodities, but it may gain a role because it is a major customer wanting a fair price. Suppliers to China will also welcome exchange indications: this would mean less guesswork about China's buying habits. A beefed-up commodity exchange is another indicator of a growing super-power acquiring the instruments of autonomous authority. London judged top financial centre American power since 1945 has rested as much on financial power as military for in both areas it can impose its will and cow uncooperative entities with awesome sanctions. According to the World Economic Forum, the largest economies took a tremendous hit in the Crisis. The Forum's Financial Development Report places the UK over the US. Its success was not complete; the Forum criticized its financial stability. It examined exchange rate stability, the management of debt both public and private, and the problem of real estate bubbles. Britain came 37th in the category. Britain trailed Thailand, Poland and Brazil in economic volatility. The Forum is really indicating a major change in the world order. An official said: "The UK and US may still show leadership in the rankings, but their significant drops in score showing increasing weakness and imply their leadership may be in jeopardy". Dollar Spurned The US dollar is being spurned as central banks are holding alternative currency reserves in record quantities. According to Bloomberg, central banks placed 63% of their new reserves into euro and yen in the April to June quarter. This is the highest percentage ever. It reflects the perception that the Obama administration's rhetoric about a strong dollar is a smokescreen for a gradual devaluation designed to increase American competitiveness. Banks, business and traders alike are aware that the dollar has lost over 10% on a trade-weighted basis in the last six months. This is despite the Japanese and Swiss, for example, trying desperately to depreciate their currency and the pound losing almost any attraction. The dollar is unattractive because of record low-interest rates, budget blowouts and rapidly escalating debt. Ben Bernanke has also indicated that interest rates will not rise soon. The markets also respect the views of major traders like Barclays Capital and Standard Chartered which predict further declines, partly because of the poor performance of the US economy. Another aspect of the dollar's demise is the importance of non-western creditors; the biggest of which are (in order) China, Japan, Russia, India, Taiwan and South Korea. China The Governor of the Chinese central bank rattled markets a year ago when he recommended reforming the global monetary system by ending the dollar's reserve status. But there is no quick fix. China could increase its holdings of Self Drawing Rights, but these are not a true currency. It may have increased its exposure to the euro, yen and gold. But is has retained massive US reserves and if it moves a large amount out, it could provoke a massive dollar depreciation, thereby damaging its remaining reserve wealth. Nevertheless, the status quo is unsatisfactory. A currency which is depreciating rapidly is unsuitable for a reserve or trading currency. Its status is shot. ____________ * Neville Bennett was a long-time Senior Lecturer in History at the University of Canterbury, where he taught since 1971. His focus is economic history and markets. He is also a columnist for the NBR where a version of this item first appeared. neville@bennetteconomics.com www.bennetteconomics.com