Dollar to remain dominant despite BRICS currency challenge

The BRICS alliance – Brazil, Russia, India, China, and South Africa – is looking to create an alternative currency of account to the US Dollar.

However, this is unlikely to be successful or reduce the importance of the greenback in global markets. 

In June 2022, Russian President Vladimir Putin said BRICS nations were working on developing a new reserve currency backed by hard assets such as gold or oil. 

The development of a new currency is expected to be discussed in further detail at the BRICS Summit in South Africa in August 2023. 

Of late, creating an alternative to the Dollar has taken a new urgency.  

India has created a system to trade with Iran without using Dollars, and the European Union has been trying to create a Euro-backed system of international trade to avoid US sanctions on Iran.

China recently published a document claiming that the Dollar is the source of instability and uncertainty in the global economy, urging emerging markets to create an alternative. It has begun to use its Renminbi in trade with Russia, Saudi Arabia, and Brazil. 

Why countries want to move away from the Dollar

Creating an alternative currency to the Dollar is seen as essential by nations that are on unfriendly terms with the United States. 

This is because the Dollar is the world’s reserve currency, with nearly two-thirds of all currency reserves held by central banks being in Dollars. The US Dollar is also used in over 80% of all international transactions. 

International transactions in Dollars are completed via correspondent banks in the US, which clear the transactions with the Federal Reserve. 

Thus, every transaction technically touches US soil, making them subject to US legislation and financial market regulation. 

This gives the US immense power as they can effectively print the world’s reserve currency and use this financial power to sanction unfriendly states. 

The US has also increasingly used this power to pursue its own foreign policy goals in the Middle East against Iran and Russia after the invasion of Ukraine. 

This has resulted in attempts to create an alternative to the US Dollar by states unfriendly towards America as they want to avoid possible sanctions while undermining the US’s financial power. 

The Dollar will remain dominant for a long time

Despite the creation of alternative currencies for trade and the Dollar’s share of global reserves declining to 59% in 2022, it will remain dominant. 

This is according to Efficient Group chief economist Dawie Roodt. 

Roodt questioned the creation of an asset-backed currency, saying that it is “simply impractical and cannot work” as that asset, whether it be gold or oil, will have to be readily convertible by the central bank. 

Other issues include who will manage a central bank across multiple countries with different economies, inflation rates, and export profiles. 

Aside from issues with creating a new currency, the Dollar remains dominant in global trade and has increased in value versus other currencies in the recent past. 

Over 80% of trade is still conducted using US Dollars, while most central bank reserves and global debt are denominated in the currency. 

Furthermore, US capital markets are the deepest and most liquid in the world. The Federal Reserve is also highly transparent, which makes it trustworthy. 

The Dollar is currently trading at a 20-year high versus other major currencies as it is considered a safe haven during economic volatility. 

Alternatives, such as the Euro and Chinese Renminbi, have significant shortcomings which prevent them from becoming reserve currencies. 

For instance, Europe lacks a unified bond market which means that central banks holding the Euro cannot invest it in European debt.

China has stringent foreign exchange controls and an illiquid bond market, limiting the amount of Renminbi foreign central banks can hold. 

The Renminbi only makes up 3% of global reserves, and only 2% of global trade is conducted in the currency, despite China being the second-largest economy in the world and the largest exporter. 

Roodt said there will come a time when the US Dollar is no longer the world’s reserve currency, as everything comes to an end.

“However, for now, there is only one currency, and that is the US Dollar,” he said.