Why world runs on dollar?

Pravin Andhale

Posted on : 3 Nov 2020

The pandemic lead contingency has brought forth the vulnerabilities in our system. Though all governments have printing presses not all are free to print as much as they want/need. 

Take for example,  the US federal reserve has announced the $2 trn package to deal with the Pandemic. The US treasury plans to borrow $3 trn. But, at the same time when Indian government looks to raise required amount by tapping borrowing market, it is warned of degrade in ratings. (No, I'm not favouring unlimited printing of money! I'm just trying to make sense of system we have created over the last century!) ( And I'm using USA's and India's examples just because I'm aware that most of you know about it well!)

So, how come have we come to this stage where we have to look and consider other countries decisions while taking best decisions for ourselves? How have we become so interdependent??

The simple answer to this question lies in the concept of Demand and Supply! 

Yes, Demand and Supply. 

Consider that any country's economy is a human body (this analogy being true upto some extent only!) and money is it's blood. Wherever blood flows more, that part of the body stays healthy. Similarly, in whichever sector money flows, that sector stays healthy. But that money just cannot stay there, it has to flow continuously. It has to flow through the central bank (The heart!). 

 The governing entity i.e. government is the brain. It requires most of the blood for it's survival.

 Actually, blood is just the carrier of resources required by the body. And those are not always present in the body, they have to come from the outside. 

  In today's world, no country is 100% self-sufficient. They all need to trade in order to get what they need. This process is very complicated with so many currencies floating in the world. No country would be willing to trade with a country whose currency is not acceptable to others.

  For example, if India has a surplus production of wheat, which it wants to sell. There are four countries that want to buy wheat, they're, South Sudan, Iran, Combodia and Chad. India, can sell wheat to Iran and South Sudan and get their currencies in return, which it can use to buy crude oil from those countries. But, if it sells wheat to Combodia and Chad and gets their currencies in return, what will it do with it? These two countries have nothing that Indians want to buy. So, India will be stuck with the currencies of these two countries. It cannot sell these currencies to other countries too, because nobody wants them. 

Therefore, there being no demand for currencies of these two countries creates a problem. Nobody wants their currencies. For that it cannot be used elsewhere i.e. it is not universally acceptable. 

  So, what's the solution? Obviously, trade in a universally acceptable currency. Gold can be that currency. Because, most people in world would be ready to accept gold in return for their services/work. 

But, is it feasible? Do we have enough gold to give some to everyone in the world? The answer is NO. According to one estimate their is only enough gold to fill only two Olympic sized swimming pools. And it cannot be artificially created feasibly. 

Now, let's look what is happening in world currently. Every country is willing to accept the US dollar in return for their goods.!!! Isn't it ridiculously amazing?

But, why??? Why Chinese are ready to accept the US currency for their goods. In most of the world, American currency is the main component of foreign currency reserve. (Even in Russia, a cold war foe!) 

Because, American currency can buy you Crude Oil, American movies (the Hollywood), and everything that is produced using USA's patents and trademarks or American investment (which is pretty much everything) (Obviously, there are restrictions, sanctions,bans, etc to deprive you of all that). 

Long story short, since there is acceptance and demand for $ it is widely used in international trade transactions (which, of course, at some point must pass through American banking system)

So, you can imagine it as The American heart pumping blood in world economy!

The governments can order pumping/printing more of their own currency. But once it's done, then it takes lot of efforts to reign in run away inflation. 

Once more of currency is printed i.e. supply increased, but goods or resources for consumption/ export are not, demand for currency starts dwindling. This dwindling demand decreases it's price. This particularly affects countries whose currency is already in less demand and those countries where natural resources are not abundantly available.

i.e. If American Dollars are printed more, they can simply be pushed in overseas markets, where it is used by countries for transacting among themselves. This cannot be done for Indian rupees. 

The inherent trust around $, build over decades, makes it a good sell in world market. This trust has been earned by $ , due to US's open and transparent policies, immigrants, it's philanthropy and it's military might. 

This combination of things is unparalleled to match and that is why $ dominance continues. But for how long?? 

Is it  not possible that a coalition will emerge and challenge, or different country with different set of values and way of handling things, a different world with very distinct features than we ever imagined. (The situation created by Pandemic was also never imagined by the way!). Let's see after Pandemic is over.

#Money #USdollar #dollardominance #pandemic #printingpress #package #demand #supply    #USA 



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Posted on : 3 Nov 2020