The world is on a de facto dollar standard, similar in
to the British pound sterling standard of the 19th and early 20th
When did the US dollar become the international standard, and how
is it to continue in that role?
In the aftermath of World War II, the relatively
stable-valued US dollar
was the only major currency in which international exchange could
take place. The dollar's role was formalized under the Bretton
monetary agreement of 1944. Other nations set official exchange
against the dollar, while the US agreed to exchange dollars for gold at
a fixed price on demand by central banks.
This system functioned well for a brief period.
However by about
1958 the initial worldwide dollar shortage had turned into an
With the too rapid growth of dollar credits around the world, gold
of the dollar proved unsustainable. The Bretton Woods agreement
in 1973, but it enthroned the dollar as the international medium of
This unique role of the dollar continues to the present day.
How the Dollar Grew
The rapid growth of the industrialized economies after
World War II
created a growing demand for dollar balances around the world.
more of its own currency a central bank issued, the more dollars it
as underpinning for its currency.
During the Bretton Woods period, the US ran large
current account surpluses.
That would have drained dollars from abroad, but long-term capital
in the form of grants and direct investments by the US were greater
its current surpluses. The result was a build up of dollar assets
by foreign firms and central banks. In effect, the US was lending
long more than it was borrowing short, thereby satisfying the world’s
demand for dollar liquidity, even while it remained a net creditor.
The Dollar Today
Today over half of all dollar notes in circulation are
the borders of the US. About half of US Treasury securities are
owned by foreigners, mainly held as reserves by foreign central
The dollar is the main currency in international capital flows, as well
as the currency of invoice for commodities and for many manufactured
and services. All countries that trade directly with the US
both imports and exports in US dollars. Eurodollars
often trade without any involvement by US participants.
Advantages for the U.S.
With the dollar as the world standard, the US is free to
monetary policy independent of exchange rate fluctuations. In
respect, other countries operate at a disadvantage. They are
to see their own currencies depreciate against the dollar because of
domestic inflationary threat that presents. They are also
to allow a substantial appreciation of their currency against the
for fear of losing competitiveness in world markets. Consequently
they sometimes subordinate their domestic monetary policies in order to
stabilize their currencies against the dollar.
A Useful Analogy
The international dollar is analogous to the fiat money
that a central
bank issues within its own monetary domain. Central banks do so
purchasing assets from those who want to hold their currency as a store
of value or for use in trade. There is little or no need for a
bank to concern itself with redeeming its own currency.
Likewise the US can issue dollar-denominated claims to
the rest of the
world which may never have to be redeemed so long as it maintains the
purchasing power of the dollar. While this gives the US a unique
advantage in terms of borrowing in its own currency, the existence of a
safe reserve asset is a great convenience to other countries.
a serious loss of confidence in the dollar could depose it as the
medium of international exchange, such as might be due to a prolonged
inflation in the US.