Biggest boon for the dollar is decentralized currencies | by Patrick Tan | April 2022
While many observers focus on challenges to the dominance of the dollar by other rival national currencies, its real competitor will come from new forms of decentralized currency.
Ppredictions of the disappearance of the dollar have been so frequent that they can be compared to the proverbial boy who cried wolf.
Despite all the predictions that the dollar was leaving center stage in the global monetary scene, it has proven its naysayers wrong time and time again, coming back even stronger each time it is challenged.
And that’s because the facets that make up a currency’s reserve status are myriad, and established reserve currencies tend to only fall over a very long period of time, long after the last vestiges of the empire that supported their rule faded away.
A pound of flesh, but not a drop of blood
Take the pound for example, the currency of the empire on which the sun never sets.
The pound’s primacy lasted well into the 1950s, long after the UK had declined to average power at best.
But what even brought the pound to the top of global pecuniary processes anyway?
Long before the United States Navy ruled the high seas, British ships crisscrossed Her Majesty’s vast empire, and the pound was the lubricant that facilitated trade in those ships’ cargoes – in 1860 alone, the United Kingdom was responsible for absorbing almost a third of world exports.
Between 1860 and 1914, around 60% of world trade was invoiced and settled in pounds.
In exchange for the goods of the world, British capital exported, and in abundance.
In 1913, the UK’s total net foreign assets were £4 trillion, around 166% of its nominal GDP, and that was because the pounds weren’t just used for billing , the financing and settlement of trade-related transactions, they were also held as a form of buffer for future uncertainties – a reserve currency.
Even though the UK’s economic influence waned in the aftermath of World War II and the loss of its overseas colonies, other countries did not immediately abandon the pound, with sterling remaining the reserve currency until the second half of the 1950s. when the dollar finally overtook it.
And while the current course of the dollar looks no different from the decline of the pound, with America’s declining share of global trade volumes relative to the strength of the dollar, the deterioration in the position of foreign assets and the unfavorable geopolitical trends, there is a key difference between the pound’s loss of dominance and the expected decline of the dollar — the lack of substitutes.
The pound could go down simply because the dollar was there to challenge.
But what substitutes remain available for the dollar today?
Few good choices if any
Today, the biggest US threat comes not from another democracy, but from China, but there remains a shortage of yuan-denominated assets for investors to buy.
And even where yuan assets exist, investors are increasingly reluctant to buy them.
Beijing’s crackdown on some of its most lucrative sectors, from real estate to after-school education, and the risk of Chinese companies being delisted from US stock exchanges are just some of the uncertainties facing foreign investors.
The Chinese yuan is not fully convertible, the country lacks independent institutions and increasingly seems to be governed by fiat (not currency), and even America’s weaponization of the dollar seems relatively innocuous by relative to what Beijing could do with yuan or yuan-denominated assets if it so chose.
Global investors who watch in horror as entire Chinese cities with populations the size of entire countries locked down in draconian pandemic measures, will think twice before pouring more money into Chinese assets.
After all, gravy for the goose is gravy for the gander – if Beijing is willing to imprison an entire city for its “own good”, what liberties could it take for yuan-denominated assets?
Even countries not necessarily on good terms with Washington may not find much solace in the yuan, given that Beijing has shown even more willingness to economically sanction countries that don’t toe the line on issues like Taiwan. , just ask the Japanese and South Koreans.
India, for example, which has sought to maintain an independent foreign policy, may not like dollar hegemony, but it would be absurd to believe that New Delhi would inject significant amounts of its foreign exchange reserves into the yuan, even if Beijing allowed it to .
Money is more than money
Money is as much a legal construct as it is an economic one – dollar dominance works because people largely trust things like the rule of law and institutions like the US Federal Reserve.
Basically, there’s little difference between the legal framework the dollar exists in and the UK’s, after all the US was a British colony at one time in its history (no matter what Americans will tell you ).
And that’s why it’s no surprise that where the dollar has lost share of other countries’ foreign currency reserves, it’s not to the Chinese yuan, but to smaller Western currencies like Canadian dollars. and Australian, which are, surprise, surprise, all former British colonies.
If nothing else, the chaos of the Trump presidency demonstrated the resilience of US institutions and the strength of the dollar.
This is why the dollar’s main challenge will probably not come from another country – it will probably come from a decentralized and democratic construction – a decentralized currency.
At its most basic, a currency represents freedom and options – the freedom to buy or consume what an individual desires, and the ability to change one’s personal, social, or geographic circumstances.
In these aspects, the dollar performs all these functions, and relatively well.
Walk into any major hotel anywhere in the world and dollars are almost certainly accepted.
From the covered markets of Ho Chi Minh to the highlands outside La Paz, the dollar will get you a cup of sweet Vietnamese iced coffee or a piping hot cup of Bolivia’s best, no questions asked.
The ability of the dollar to provide this freedom of choice is also a function of what the currency stands for – democracy and the rule of law.
The prospect of a rival currency like the Chinese yuan, where north, south, east, west, the Party rules them all, and all centers of power over the Party, seems unlikely.
But a decentralized currency could potentially pave the way that could provide all the faculties of the dollar without fiat, where the software code that governs it becomes the equivalent of the rule of law and the decentralization of its architecture and validity plays the role of independent establishments.
Bitcoin not enough but a good start
While bitcoin may appear to fulfill this role, it still falls short in other areas, more iterations or a combination of cryptocurrencies are needed to fulfill the myriad of roles the dollar serves.
Granted, Bitcoin is about as decentralized as it gets – with its built-in consensus mechanism, a natural extension of democratic principles.
There are no barriers to participating in the Bitcoin economy either, with the anonymity and immutability of the blockchain providing both contract certainty and enforcement of the rule of law. without requiring an app.
The proof-of-work methodology for securing the Bitcoin blockchain, although energy-consuming, requires far fewer resources than a legal system, government, and police force.
But Bitcoin also suffers from a major drawback in its ability to usurp the dollar as a common currency: it is deflationary.
Since the dollar was no longer backed by gold, the inflationary nature of fiat currencies meant that economic citizens were engaged in a perpetual cycle of production and consumption.
Because the dollars in our wallets and bank accounts were losing value, there was an incentive to spend them and earn more.
This monetary cycle perpetuated the capitalist system, warts and all, but precipitated the greatest increase in economic well-being in history.
But because there will only ever be 21 million Bitcoins, there is a strong incentive to hold whatever Bitcoin one has, rather than spending it on, say, pizza or whatever.
And that’s a problem.
Bitcoin cannot be both a means of exchange and a store of value, unless he wants to do both tasks badly.
As such, Bitcoin on its own would provide an incomplete solution to compete with the dollar and would need to be complemented by other decentralized currencies that could build on the strength of its decentralized structures and respond to a more flexible monetary policy that could still facilitate the trade and capitalism that have made nations great.
In this design, decentralized currencies like Bitcoin would coexist with the dollar, strengthening democracy, rather than undermining it, building new decentralized institutions that would prevent consolidation and abuse of power, rather than encouraging it.
That’s why it’s no surprise that Washington has been receptive to cryptocurrencies, while Beijing has banned them.
The UK became the largest empire in the world (at one time) because it saw the value in decentralizing power.
While rival European countries like Russia retained the autocracy of the Tsar’s House, Buckingham transferred power to Westminster and the House of Commons.
Even China’s history has traced a path of centralization leading to decline, leading to decentralization, leading to rise, then to centralization, To infinity.
Fortunately, the founding fathers of America saw fit to ensure the separation of powers, in their version of Westminster 2.0.
Decentralized currencies like Bitcoin will be an enhancement and extension of Washington 3.0.
If cryptocurrencies become the preferred way to settle cross-border trade, using smart contracts built on blockchains like Ethereum and Solana, with finances powered by decentralized finance protocols like Uniswap and Aave, then maybe ‘one day the dollar might find a potential rival, but it won. This does not come from a nation-state or the inflexible concept of money, it will come from the decentralization and improved democracy that this represents.