In the mid-1960s, Valery Giscard d’Estaing, the French Finance Minister of President General Charles de Gaulle, coined the phrase “exorbitant privilege” to describe the phenomenon of international hegemony of the US dollar. Is this exorbitant privilege on the wane in recent times? Or has the dollar been weaponised in the context of the current Russia-Ukraine war? Consider the following phenomena.

First, on January 18, 2022, the US Senate, in its “Defending Ukraine Sovereignty Act”, effectively threatened to cut Russia (including major Russian banks and energy companies) off from access to US dollars as a consequence of its aggression.

Second, as of mid-March 2022, the US sanctions on Russia froze nearly half of Russia’s $640-billion gold and forex reserves.

Third, as part of the sanctions, several Russian banks have been disconnected from the SWIFT system, seriously constraining their ability to communicate with other global banks.

Fourth, there are reports that China is attempting to buy oil from Saudi Arabia in yuan, and Russia is demanding to denominate its oil trade in rouble. Similarly, in India, there are speculations about whether the days of rupee-rouble trade are back.

Finally, there are conjectures that cryptocurrencies could be used to minimise the sanctions on dollar trade. All the issues assume importance in the current context.

Why is the dollar so much more than the currency of the US? At the end of the day, the dollar is an international currency so much so that economic agents across the spectrum are ready to accept the dollar. An airport porter, a terrorist organisation, a hedge fund, a central bank, an importer or an exporter, a global bank, or even a local grocery store — the list of such economic agents ready to accept dollars seems endless.

Nobel laureate economist Paul Krugman made an interesting classificatory scheme of different dimensions of holding an international currency. Krugman grouped the advantages of holding an international currency separately for private and official agents; for each of the two agents, the phenomenon of universal acceptability of an international currency may be sought under three heads:, (a) medium of exchange; (b) unit of account; and (c) store of value (Table).

Key roles of the dollar

In terms of the current Russia-Ukraine war, which of these six roles of the dollar gets diluted?

To appreciate the role of the dollar as an international currency, we may note the following trends for the pre-Covid world. First, by the end of 2018, the US Fed revealed that more than 45 per cent of dollar bills are held outside the US. Second, IMF data reported that as of end-2019, the dollar tended to play a significant role in exchange rate determination in 38 countries that do not have a freely floating exchange rate; the euro comes second with a list of 25 countries, many of whom belong to Francophone Africa.

Third, the dollar has always been the single most important invoicing currency. Fourth, the ‘Triennial Central Bank Survey of Foreign Exchange and Over-the-Counter (OTC) Derivatives Markets’ of the Basel based Bank for International Settlements (BIS) revealed that in terms of currency composition, the dollar alone accounted for nearly half of the total transactions in the forex market in 2019; a distant second is the euro with a share of around 16 per cent.

Fifth, in terms of the IMF’s 2019 edition of Currency Composition of Official Foreign Exchange Reserves (COFER), since the beginning of the new millennium, nearly 60 per cent of the global forex reserves have been invested in US dollars.

All these numbers are, however, history. Interestingly, notwithstanding the insular policies of US Present Trump, the world witnessed a phenomenon of “flight to safety” with countries and corporations flocking to the dollar during the Covid pandemic, like during the 2008 global financial crisis. How do we see the dollar supremacy play out in the post-Covid world tormented by geopolitical tensions triggered by the Russia-Ukraine war?

Krugman’s matrix

In terms of Krugman’s 3x2 matrix, three comments are in order. First, the role of the dollar as (a) a private vehicle of exchange; and (b) a private invoicing currency could have been marginally dented at the current juncture. Second, more importantly, the importance of the dollar does not seem to have waned in terms of its official role as a medium of exchange, a unit of account and a store of value. Finally, there is not much evidence to infer that countries have shifted their forex reserves significantly away from the dollar.

The process of making a currency international takes time and involves an interplay of economic, political, and strategic forces. Typically, such locomotion occurs at a slow pace with some tipping point. It took not less than two World Wars for the pound-sterling to lose its status as the key international currency. But are we again at the epoch of such a change? Can the current Russia-Ukraine war and the somewhat vacillating role of the US as a military power lead to such a tipping point? Or can technology and the emergence of cryptocurrency push the world towards multiple standard currencies?

While it is difficult to hazard any prediction at the current juncture, it is unlikely that the recent developments are of such dimensions, calling for tectonic shifts in the global status of the dollar. It may be premature to write the epitaph of the dollar.

Ray is the Director of the National Institute of Bank Management, Pune, and Pal is a Professor of Economics at IIM Calcutta. Views are personal