The question of whether the US dollar is dethroned by a cryptocurrency misses the bigger picture
of what the mix of possible alternatives would offer governments pursuing geopolitical advantages
A combination of geopolitical tensions and aspirations for economic autonomy is motivating Russia, China, the EU and others to move faster to establish new currency and financial systems. These developments naturally raise questions about the US dollar’s central role in global trade and finance — questions that necessarily implicate the future of the existing international order.
The effect of geopolitics on currency markets is clear. Safe-haven currencies such as the yen are showing significant gains, whereas the status of the ruble remains uncertain. In emerging markets such as Turkey, erratic policies and abrupt policy changes are sustaining considerable currency volatility. Of course, the US’ own internal economic challenges are major variables to watch. A failure to manage its high national debt and political strife could lead to a decline in global confidence in the greenback.
While developments in Asia, the Middle East and Eastern Europe have been dominating the economic discourse and driving currency dynamics, there is nothing new about significant exchange-rate movements following major world events. What is new are digital assets, which are further complicating the picture.
Illustration: Mountain People
A particularly concerning trend is the move by countries and entities under the influence of the Chinese Communist Party (through Hong Kong) to evade the regulatory purview of the US by adopting digital alternatives to the US dollar.
The shift toward a crypto-based financial system, operating beyond traditional regulatory frameworks, obviously has the potential to erode US dollar hegemony. To some, the evolution of bitcoin exchange-traded funds (ETFs) and public listings of cryptocurrency companies might suggest that crypto would sit neatly within existing power structures, and they would be correct. The emergence of bitcoin ETFs could reasonably be categorized as an attempt to “institutionalize” and control the cryptocurrency through these structures.
However, the battle for currency supremacy is multilateral — where these currencies break new ground is in their lack of allegiance to the US dollar or US financial systems. US financial systems and the US dollar can interact with digital currencies, but digital currencies do not require them to operate.
Bitcoin and other digital currencies that are not backed by any state are here to stay, and fiat-based digital assets such as stablecoins or “state-backed” central bank digital currencies (CBDCs) would also offer new advantages in today’s fiercely competitive global economy.
Still, the question of whether the US dollar would be dethroned by a digital asset, a stablecoin, or some other currency ultimately misses the point. What really matters is the mix of possible alternatives that the evolving financial landscape would offer to governments pursuing a geopolitical advantage.
In this context, new techno-powered alternative currencies should be understood as pawns in an older battle for strategic dominance for which there is no end in sight. The likely outcome would be a difficult, and potentially destabilizing transition toward a multipolar currency system inhabited by a complex mix of state- and non-state-backed alternatives.
This will not happen overnight. Despite successful “experiments,” such as El Salvador (which gained millions in US dollars by simply holding onto bitcoin reserves), there is no basis to anticipate the imminent end of US dollar hegemony. After all, the greenback’s status as the world’s safest reserve currency still aligns well with the needs of countries that boast large trade surpluses — not least of which is China.
The US-centered global financial system is what allows these countries to convert their net exports into safe assets. Without the US dollar, non-American capitalists outside the US would not have been able to accrue and safely store such immense surplus value from their labor forces.
Technological innovation cannot simply bypass longstanding financial norms or put an end to complex political disputes that have been playing out over the course of centuries. International-relations theory largely rejects the possibility of a harmonic global currency system being built without ulterior motives.
According to the realist view, which regards states as rational interest maximizers, currency dominance is another means of ensuring one’s own security and material power. A robust national currency serves this objective for the issuing country.
This is not the only way to look at the currency competition. While liberalism favors economic cooperation and assumes the rationality of national players, states would not hesitate to abandon established norms when threatened, or when seized by other motives.
Consider Russia’s abrupt pivot to a zero-sum mindset in early 2022, when it invaded Ukraine and effectively invited sweeping international sanctions. At the end of the day, even the most idea-focused theorists must recognize that innovation and power can mean different things to different states.
The tension between political power and technological progress is also reflected in the intergovernmental organizations shaping the rollout of digital assets. While the UN has made strides in shaping crypto-asset policy through initiatives like the Financial Action Task Force’s 2019 Travel Rule, its power is inherently limited by international-relations norms, like the priority of maintaining diplomatic relations with all countries and following the guidance of the G7.
The numbers speak for themselves: As of March 2022, only 29 of 98 jurisdictions had implemented the Travel Rule. Other bodies, such as the International Organization for Standardization and the Bank for International Settlements, have also faced implementation difficulties, owing to cultural and economic-development differences among member states.
Without widespread buy-in, a policy’s impact would always be limited, no matter how well it is designed. So far, there has been little public outcry about major policy moves to address the rise of digital assets. That can always change, because norms of restraint can quickly fall by the wayside when something (like a new cryptocurrency) threatens a state’s power.
A digital asset’s potential for wider adoption and use is most enticing not to the countries that already dominate international organizations, but to those that stand to benefit the most from a currency disruption. Academics, policymakers and innovators can all agree that digital assets hold the promise of empowering emerging economies and encouraging healthy, if not groundbreaking, competition.
The greater the progress toward a multipolar global (digital) currency system, the more that US currency dominance would wane in relative terms. Although the US would likely remain a financial powerhouse, its domestic instability (from frequent threats of government shutdowns to deepening polarization over foreign policy) has weakened the world’s confidence in its leadership.
Evidence of this changing attitude is not confined to traditional fiat-currency markets. The skepticism toward stablecoins such as tether’s USDT and circle’s USDC also reflects mixed feelings about the US’ long-term reliability. While pegging these assets to a stable currency like the US dollar makes sense, it also raises concerns among those who worry about US financial dominance creeping into the supposedly international digital domain.
Moreover, the uncertain future of US crypto regulation does little to inspire confidence in investors, buyers or traders.
CBDCs are another popular way for countries to get in on the digital-asset game, and unlike stablecoins, they need not rely on a foreign-currency peg. With all the original BRICS countries (Brazil, Russia, India, China and South Africa) having already launched CBDC programs, the question is not whether more countries will go down this road, but when and why, and how their global standing might change as a result.
We already know why some countries would move in this direction. At the BRICS summit in August last year, Russian President Vladimir Putin boasted that “the objective, irreversible process of de-dollarization of our economic ties is gaining momentum.” His motivations are obvious. Western sanctions, enforced through US dollar hegemony, have severely constrained Russia’s access to markets, capital and technology.
Putin is not alone in rooting for alternatives to the US dollar. For his part, Brazilian President Luiz Inacio Lula da Silva supports the creation of a common BRICS currency for intra-bloc trading and investment. While most experts doubt that this proposal would be a game changer in the broad scheme of things, it suggests growing interest in establishing a more multipolar international currency system.
Lending additional momentum to these trends are developments in the burgeoning digital economy. New tech behemoths such as TikTok are masterfully extracting revenue from the US market and funneling wealth back to China.
Unlike firms in the traditional goods and services trade, digital platforms operate on a new model that frees them from much reliance on US dollars to sustain their infrastructure or offer their services (which they produce at near-zero marginal cost). They can operate with any currency and do not require cash.
This means that even when platforms like TikTok take in funds in US dollars, they can move out of that position with ease and exchange into any number of digital formats that best suit their needs, whether that be a fiat currency or a cryptocurrency, in a bank account or wallet in their main country of operation. This is the case for any new digital company, and their level of crypto-acceptance determines how well they can separate from dollar dominance.
This paradigm shift implies that as the growth of the digital realm continues to outpace that of the tangible economy, China’s reliance (as well as that of other countries) on US regulatory power over physical trade will gradually diminish. It will face increased scrutiny and requirements to engage with US consumers, as evidenced by the US Congress’ recent TikTok bill.
However, the ability to sell to US consumers might not be tied to accepting US dollars for much longer. A platform like TikTok that adheres to all US regulations but accepts payments from their US customers in cryptocurrencies from their digital wallets is a very different creature.
In the new digital economy, rules are subtly being rewritten to reduce others’ reliance on the US market for exports and savings. These early signs herald a bold new chapter in global economics, where digital prowess will reshape traditional dependencies. Many countries are clearly ready for a new geopolitical order, and digital assets might prove to be the catalyst.
Even as we recognize the potential of digital assets to benefit the public, we must carefully evaluate specific uses and platforms. With Web3 and other crypto applications already making headway in their respective sectors, we must remember that these projects do not exist in a vacuum. Progress toward widespread adoption of digital assets must continuously be analyzed for its potential repercussions in the global currency domain.
For now, one of the frontrunners in the digital-asset race is China. Its digital yuan, introduced as a pilot program in 2020, could provide the basis for a non-US-controlled international payments rail. Russia has already increased its own reliance on the Chinese currency to skirt sanctions, and it is easy to imagine that other countries could follow suit in the future. Welcome to the new age of currency competition.
As for which currency will become dominant in the coming years, it depends on the appetite of challengers to compete with the US dollar. The yuan would benefit considerably from the abandonment of capital controls. A BRICS currency could fare better if it adopts some elements of scarcity and inflation controls (perhaps through reliance on blockchain, as some recent reports indicate could happen). A singularly powerful digital currency would require extensive on and off-ramp access to fiat currencies as well as widespread acceptance as a form of value. All of this is within the realm of possibility. What remains to be seen is which will reign supreme.
Paolo Tasca, an economist and financial computing professor at University College London, is the founder of the university’s Centre for Blockchain Technologies and the DLT Science Foundation
Copyright: Project Syndicate
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