The mighty US dollar's dominance is under threat. Once the undisputed choice for global monetary affairs, the omnipresent US dollar is visibly losing its grip all around the world. The rising trend of dedollarisation is picking pace.?
But why is it happening and how can it affect your investments? Read on to find that out.
The US had for decades been the world¡¯s largest trade economy, but it has been weakening for a pretty long time. Accordingly, many countries have been pruning their dollar holdings in recent years. The market share of the US dollar in the world¡¯s forex reserves fell to nearly 58% in March 2022¡ªthe lowest since 1994. Its market share was around 71% in 2001 (peaked at 85.6% in 1971 before the Nixon shock, when the dollar¡¯s convertibility into gold was suspended), as per ET.
Meanwhile, global central banks have been adding gold to their coffers, rather than stocking up on the dollar.?
In 2022, central banks bought a whopping 1,126 tonnes of gold¡ªthe highest since 1950. They have been buying gold at the fastest pace since 1987. Further, multiple countries have started exploring the settlement of cross-border trade and investments in their own or alternate third-party currencies, ditching the dollar as the intermediary. This visible shift towards dedollarisation represents a critical transformation and reshaping of the world order. It has implications for asset prices as well.?
So let's discuss why the dedollarisation trend is accelerating and how it will impact your investments.
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Various experts put forth their views regarding the fall of the dollar and its potential impacts.?
Currency swings may be pronounced, impacting any foreign investments. If you have dollar-denominated investments in the form of international equity funds, be prepared for higher volatility in returns. The dollar has been trading weaker amid banking troubles in the US and the possibility of rate cuts by the Federal Reserve in the coming year. A weakening dollar may even shave off some of the returns.?
¡°If the dollar recedes, value of investments held in that currency will fall,¡± said Kirtan Shah, Founder and CEO, Credence Wealth Advisors, as per the?ET report.?
But this does not necessarily weaken the case for having US centric funds in your portfolio. The US continues to offer investors the chance to tap into high-growth, innovative businesses with a wide geographical reach. Investors can explore other alternatives but only after building adequate allocation to the US market.?
Shah says, ¡°To achieve global diversification in the portfolio, I don¡¯t think there is a better alternative than US dedicated funds.¡± However,?Mehta wants investors to give more prominence to gold as a diversifier and risk mitigant.
But why are countries stepping away from the comfort of the dollar? Only two years ago investors were running to the safety of the greenback in the aftermath of the pandemic. Vikas Gupta, CEO and Chief Investment Strategist, OmniScience Capital, says ¡°It represents a paradigm change. It was unthinkable before but today countries that would not even consider it are actively exploring alternatives to the dollar.¡±?
The big dedollarisation push is owing to the US government¡¯s reckless monetary policies in recent years. It is perceived that the US takes undue advantage of its position as the owner of the world¡¯s reserve currency. For several years, it resorted to profligate money printing to prop up its economy, disregarding the negative spillovers its actions caused in other economies, particularly emerging countries.
After flooding the globe with excess money, the US then resorted to unprecedented rapid monetary tightening to tame the spiralling inflation. This caused severe disturbances globally. A stronger dollar made inflation worse, as imports of many commodities, which are paid for in dollars, became even more expensive. It singed countries with high foreign debt, which is dollar-denominated. Emerging countries had to fight off capital outflows and currency depreciation, the report mentioned.
Further, increasing ¡®weaponisation¡¯ of the reserve currency is another reason why countries are shying away from the dollar. The US government¡¯s unrelenting use of monetary sanctions as a strong-arming tactic against hostile nations has made even neutral countries uneasy. The freezing of billions of dollars¡¯ worth of Russia¡¯s assets by the US got many countries to reassess their own dollar-heavy reserves. It has already prompted nations targeted by sanctions to find alternate arrangements to bypass the sanctions. But tellingly, it is also spurring other nations to be less reliant on the dollar. ¡°Even friendly nations are rethinking their dollar dependency,¡± adds Gupta.
Ultimately, the need for a more diversified and resilient global financial system¡ªone that is less susceptible to the foibles of a single, dominant currency¡ªis slowly pushing the world towards weaning away from the dollar. Chirag Mehta, CIO, Quantum AMC, argues, ¡°The dedollarisation narrative is for real and has been shaping up for some time.¡±
"Void left by the dollar will be positive for gold. The share of gold in countries¡¯ forex kitties has been rising and that trend is here to stay.¡± Chirag Mehta CIO, Quantum AMC.
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Even though it is losing its earlier vicelike grip over the global exchange, it would be na?ve to suggest that the dollar¡¯s demise is near. It will not be easy or even desirable for the world to completely shed reliance on the dollar. The US dollar still offers several benefits that other alternatives cannot, for now.
The sheer stability of the US economy coupled with the free convertibility of the dollar are not found anywhere else. The Chinese Yuan has the economic might to back its claim to the throne but tight capital controls derail its global ambitions. The Euro offers the easy convertibility of the dollar but is held back by the shaky economic and political ballast of the European Union. Besides, the US boasts the world¡¯s deepest and most liquid financial market, burnishing its credentials as the owner of the world¡¯s reserve currency.
Joseph Thomas, Head of Research, Emkay Wealth Management, asserts, ¡°The dollar has the backing of the largest open economy with a sound, well-managed financial system.¡± Additionally, the inconvenience of making the switch to alternative arrangements is itself a big deterrent. Any developing countries transitioning away from the US dollar face prospects of heightened exchange rate volatility, hurting trade, investment and capital flows.
¡°As long as the US is the largest open trading economy, as long as everyone in the world wants access to the US economy, and as long as it is a lot of work and a great inconvenience to switch, the position of the dollar as the global reserve currency is secure,¡± said Brad MacMillan, CIO, Commonwealth Financial, in a blog. As per the report, this reality is underscored by how the dollar has largely held strong amid all the chatter around its fading power.
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