The geopolitics of de-dollarisation

The dominance of the US dollar is increasingly being questioned due to a range of geopolitical, geoeconomic, and geostrategic challenges and shifts. The dollar has long symbolised the United States’ hard and soft power within a unipolar currency order. The dollar’s future as the dominant world currency hinges on the geopolitical fragmentation between the US, Russia, and China—an outcome that could impact the liberal international order. Technically, de-dollarisation refers to a significant reduction in the disproportionate use of the US dollar in global trade and financial transactions.

Foreign governments and corporations borrow heavily against US dollars, with approximately 64% of the world’s debt held in dollars. Currently, around 84% of global transactions are done in US dollars, though estimates may vary. This disproportionate share of the dollar persists despite the US accounting for only about 10% of global trade. Many governments and central banks hold dollar-based assets—such as Treasury debt—as reserves to manage foreign currency reserves. Gold accounts for 10% of global reserves, and the US dollar remains the primary global reserve currency.

Geopolitical and geoeconomic uncertainties have increased the global community’s propensity to seek safe havens for investments. In this sense, the US dollar continues to enjoy confidence as the world’s safest currency, especially among countries that have a military alliance with the US. Nearly three-quarters of US assets abroad are held by America’s closest allies, and these military allies are also the major reserve holders of the US dollar. Thus, security guarantees and political affiliations drive the holding of US assets.

The dominance of the dollar is primarily maintained due to geopolitical fragmentation of the world into three blocs: the US-leaning bloc, the China-leaning bloc, and the non-aligned bloc. The foreign exchange reserves of the US-bloc countries have remained relatively static. However, countries with a low alignment with the US, such as those with a low-voting alignment in the United Nations, may reduce their dollar holdings and dependence. BRICS nations have also emerged as frontrunners in this de-dollarisation process.

Countries facing the risk of US economic sanctions or geopolitical tensions are more likely to move away from the US dollar. In this context, the dollar presents the US with a non-military instrument of coercion, as exemplified by the ongoing Ukraine-Russia war. In July 2023, Bolivia joined Argentina and Brazil in using the renminbi for trade payments. Some countries are opting to invoice their trade in mutually acceptable currencies, such as the Chinese renminbi, instead of the dollar. Malaysian President Anwar Ibrahim has even suggested the creation of an Asian Monetary Fund, acknowledging Asia’s concerns about its dependence on the US dollar.

China holds the largest stock of foreign exchange reserves at $3.2 trillion, with more than 60% estimated to be in US dollars. Japan, however, is the largest foreign holder of US Treasuries, with $1.1 trillion. Comparing Japan and China is relevant to the contemporary global geopolitical context. As of February 2024, China holds nearly $849 billion in US Treasuries—a 12-year low. By March 2024, 52.9% of Chinese payments were settled in renminbi, while 42.8% were settled in US dollars.

Overall, the US dollar’s share of global reserves has declined from 79% at the turn of the century to 59% today. The key issue is whether the potential competitor currencies like the euro or the renminbi possess the attributes of the dominant US dollar. Recent trends show central banks purchasing gold, which is perceived as politically neutral and a safe asset. Countries that have geopolitical concerns with the US fear financial sanctions and the dominance of the dollar.

The geopolitical stratification of the world is increasingly having an impact on the dominance of the US dollar as a reserve currency. At best, the dollar may erode at the edges because of the geopolitical tensions and morphing of the world into trading blocs. Over all, the dollar has maintained its transactional dominance, though some de-dollarisation has taken place, especially in the realm of foreign exchange reserves. The threat to the dollar will emerge as a concern when larger number of countries shift to alternate currencies and/or resort to buying gold. De-dollarisation is contingent on the nature of the geopolitical, geostrategic, and geoeconomic shifts and dynamics. Though threats to the dominance of the dollar remain, the lack of a focal point and the history of dollar use make it relatively difficult to assess whether the dollar’s dominance is actually being threatened.

The shift away from currency unipolarity to currency multipolarity will take time, though the chipping away process has started.

(The writer is a professor, Department of International Studies, Political Science, and History, Christ demmed to be University, Bengaluru)