The Growing Deficit in Washington is Driving Central Banks to Alternatives


Author: Michael Stern

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For the fifth year running, the share of dollar-denominated assets in global foreign reserves sank to 59 percent. The last time the dollar sank to this level was a quarter-century ago. Amid concerns over prospects for the U.S. dollar, emerging economies, including Russia and China are diversifying holdings.

Foreign governments have long seen U.S. Government bonds as the “go-to” option. Foreign governments and their central banks have historically maintained dollars as a backup fund in the event they suffered a monetary emergency.

Information published by the IMF (International Monetary Fund) seems to suggest that the U.S. currency may be losing its attractiveness as a reserve currency. The coronavirus has exacerbated the twin deficits of large fiscal deficits and large trade deficits. As such, the dollar’s long-term value is being cast into doubt. Monetary authorities around the world are beginning to place greater weight on assets in currencies other than the dollar, as well as gold and other nonmonetary options.

The IMF gathered data from 149 countries, finding that global foreign reserves were $12.7 trillion at the end of 2020. Dollar-denominated assets increased by 4 percent to $7 trillion.

Daisuke Karakama, chief market economist at Mizuho Bank in Japan believes emerging economies are intervening in the market by selling their home currencies in lieu of dollars, thus keeping their currencies from strengthening which in turn would negatively impact their exports.

Dollar Assets Are Down

As a percentage of foreign reserves, assets denominated in U.S. dollars fell 1.7 percent at the end of 2020, down to 59 percent. The last time the dollar fell this low was in 1995 when it fell to 60 percent.

A weaker dollar contributed to its decline in share as well. IMF economists Chima Simpson-Bell and Serkan Arslanalp note that while the dollar’s share of global reserves has declined, it tends to indicate that foreign central banks are shifting away from the dollar, albeit slowly.

At the close of 2020, China held over $1 trillion in U.S. Government securities. According to data provided by the Treasury, this is down 20 percent from seven years ago. Some analysts suggest that sales of U.S. bonds to China may settle as a consequence of the inauguration of Joseph Biden as President.

Russian Holdings Also Plunging

According to data published by Russia’s central bank, international reserves as of September, including gold, totaled almost $580 billion. Although dollar-denominated assets made up approximately 20 percent of this total, it is down from close to 50 percent in 2017. Russia began the process of divesting itself of U.S. dollar-denominated assets after economic sanctions were placed on the country for its annexation of Crimea.

There has been a noticeable shift away from U.S. government bonds by both Turkey and Brazil.

Countries are turning to assets not denominated in dollars. At the end of 2020, Euro-denominated bonds made up over 20 percent of global allocated reserves. Some market watchers believe that the rise in the Euro is the result of its popularity after the EC issued bonds on behalf of all member states to fund the EC’s response to coronavirus.

For the first time in more than 20 years, Yen assets rose above six percent. Chinese investors bought $20.2 billion (2.2 trillion Yen) of Japanese medium and long-term bonds during 2020. To many, this appears to signal that China is in the process of converting some of its U.S. dollar-denominated holdings into Japanese Yen.

Gold is also gaining traction. The precious metal overtook U.S. dollars as a proportion of international reserves in Russia last year. The central bank in Budapest tripled its gold reserves to 94.5 tons suggesting the importance of gold as a safe-haven asset.

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Michael Stern is a calculated risk taker with deep technical insight into digital currency and the development of strategic strategies.