Dollar signs

Has the tipping point arrived when the U.S. dollar ceases to be the preeminent reserve currency in the global economy -- a status it has held for 60 years? Such conjecture has been triggered by the recent dip in the dollar against the euro, following on the Federal Reserve's three interest rate reductions -- the latest on Dec. 11 -- that reinforced a two-year slide in the dollar against the euro by 40%.

This bit of financial esoterica is not only of interest to financial markets, foreign-exchange speculators and the beleaguered American tourist in the euro zone. Since World War II, the dollar has been held as reserves by other countries in their financial portfolios because of its universal acceptance in the world economy and its stable value.

For the country whose currency achieves this status, there are considerable advantages. The United States can run large trade deficits, buying more than it sells in the world, because the selling countries are eager to acquire dollars as reserves. Such trade deficits are in reality debts whose reconciliation can be postponed as long as countries seek dollars as reserves. Political power also derives from this financial reality, as countries become willing to accommodate the reserve currency country in order to gain access to that currency.

The euro's introduction was not unmindful of these political and financial power configurations. Today, Hugo Chavez of Venezuela and Mahmoud Ahmadinejad of Iran have joined a group of Europeans waiting and hoping for the dollar's demise. In the backrooms, where financial-political diplomacy is discussed, similar desiderata are expressed by some influential leaders in Russia, China and the oil-exporting countries of the Middle East.

Countries make decisions to hold their trade surpluses in a reserve currency based on several considerations: the rate of return, degree of risk, relative strength of economies competing for reserve status, and a more subjective determination of the confidence in a country's decision-making. Risk pertains to exchange rate stability. Holding dollars has made a country's dollar reserves worth less by as much as 40% in the euro zone when the dollars are used to purchase services or commodities from euro zone countries.