Powerful Currency in the World; US Dollars

 

Summary of Article

• Over 180 currencies are in use across 197 countries, with some currencies shared between nations like the euro in the EU and the US dollar in 14 countries.
• Foreign exchange reserves, held alongside national currencies, facilitate international trade and finance, with 59% held in US dollars.
• The rise of paper currency replaced older trade systems, leading to the need for a common international system.
• Originally, currencies were backed by gold reserves until the World Wars disrupted this system, causing inflation and economic challenges.
• During the wars, the US emerged as a major economic power by supplying goods and financing, accumulating gold reserves and implementing the Lend-Lease Act.
• The Bretton Woods Agreements in 1944 established the US dollar as the global trade currency, backed by gold, and led to the creation of the World Bank and IMF.
• Oil trade in dollars, starting with a deal between the US and Saudi Arabia in 1945, further solidified the dollar's dominance.
• In 1970, the link between gold and the dollar was severed, allowing currencies to float freely, with the dollar's strength tied to its use in international trade, especially for oil.
• Countries hold large reserves of US dollars, investing in US Treasury bonds, giving the US significant economic power and influence.
• Despite some countries using local currencies for trade, the US dollar remains vital in global trade and the world's economic system.

 

Welcome to Historical Horizons. Currently, around 180 different currencies are being used in 197 countries of the world. There are also some currencies that are used in more than one country. As the euro is used as the primary currency in more than 24 countries of the European Union. Similarly, the US dollar is currently the primary currency of about 14 countries.

All the countries of the world have foreign currency reserves in addition to their own currency which are called foreign exchange reserves. The main purpose of holding foreign exchange reserves is to make international payments for trade or other financial transactions. But friends, do you know that about 59% of the world's foreign currency reserves are in the form of US dollars? America is currently the superpower of the world and undoubtedly the American economy is considered to be the most powerful economy in the world and the American dollar is considered to be the most powerful currency of the world. Friends, this journey of development of American economy is very interesting. Let us try to find out why most of the world's trade is being done in dollars and how the US dollar became the world's most powerful global currency.

The inception of paper currency

Friends, different systems have been used in different eras for trade and financial transactions in the world. At the end of the 19th century and the beginning of the 20th century the financial system of the world was converting into the use of different types of paper currency. In this situation, there was an urgent need to create a common system for commercial and financial transactions between different countries. Because each country had its own currency and there was no clear rule for printing and circulation of currency each country used to print and use currency as per its own needs. As a result, there were serious difficulties in using the currency for trade between different countries.

To solve this problem, most countries agreed that each currency should be valued at a certain amount of gold and that the government should have enough gold to print more of any currency. For example, in 1873, the value of one dollar was set at 1. 504 grams of gold. So in order to print 1000 dollars, the US government must have 1504 grams of gold. In simple words, each country can print the its currency as per availability of gold, not more than that. This was decided at that time.

But after the start of the First World War, this system got collapsed. The countries involved in the First World War needed a lot of money for war expenses and to meet this need, many countries once again started printing their own currency notes blindly. As a result, the inflation in some countries increased too much and the value of their currency became very low Britain was the superpower of the era and its colonies were spread all over the world. Although they tried to keep their currency pegged to gold in order to maintain the value of their currency and maintain their position in the world. Eventually in 1931 they too abandoned the gold standard behind the currency.

This led to a sharp drop in the value of the pound and the bank accounts of international traders who traded in pounds at the time were severely effected. Moreover, even a superpower like Great Britain had to borrow money to meet the war expenses. After the First World War, in 1920 their national deficit had reached 7. 8 billion pounds which was just 600 million pounds in 1913 before the war. After the Second World War, this deficit increased to about 21 billion pounds which at the time was almost three times of their gross domestic product (GDP). Similarly, other countries like Russia, France and Germany also suffered severe financial deficits.

World Wars and America's Economic Policy

Friends, the economic and diplomatic policy of the United States in both these wars was excellent. The United States participated in both these wars first as a war merchant and later as a war participant. That is, while the whole world was engaged in these wars the US was engaged in the production of cotton, wheat, rubber, machinery, precious metals and arms with all its capital and manpower. As a result, America saw the world's greatest economic boom in a short period of time and emerged as the world's largest exporter. Between 1913 and 1917, in just four years, total US exports rose from $2.4 billion to almost three times, that is $6. 2 billion while the super power Britain's exports were about $2.5 billion.

Similarly, at the beginning of World War II, America was not officially a war participant so they used all their resources to increase their exports. By 1945, US exports had grown to over $10 billion most of which went to Great Britain and Russia. In comparison, Britain's exports were only around $3 billion.

Friends, the interesting thing is that there was a condition on the part of the US that it would sell all the goods during war, only in exchange for its own currency, that is dollars, or in gold. At that time, obviously all other countries don't have US dollars to trade. So America collected major gold reserves of other countries. That is, the United States created such business opportunities for itself from these two great wars that when the economies of the world's superpowers were being effected by war. United States had successfully accumulated about three-fourth of the world's gold through trade. America's gold reserves increased from 2,000 tons in 1910 to 20,000 tons in 1945.

Lend-Lease Act

Due to this stunning economic development of the United States during the wars, it became the last option to lend to many countries. During World War II, the US began providing major military equipment and other aid to the Allies under the lend-lease act. Under the Lend-Lease Act, the U.S. government, instead of selling could lend, lease, or grant war equipment to any country. The purpose of this loan or aid was to provide defense assistance to countries whose security was considered critical to the security of the United States.

By this time, the United States itself was not officially a party to the war and was officially neutral in the conflicts. So much of this aid went to Britain and other countries that were already at war with Germany and Japan and were not capable to buy more weapons. It was the Lend-Lease Act that enabled a superpower like Great Britain to practically continue the war against Germany. After the incident of Pearl Harbor.

In December 1941, when the United States became a war participant still, under the lend-lease act, aid continued and by the end of the war, the US had provided nearly 50 billion dollars in aid to more than 30 countries. Due to all these factors, the US dollar started to emerge as a strong and global currency and the big superpowers of that time also became in-debted to the US. It was on this occasion that in 1944, the United States gathered representatives of 44 countries and signed an agreement that formed the basis of making the US dollar a world currency.

Bretton Woods Agreements

Delegates from 44 Allied nations met in Bretton Woods, New Hampshire in 1944 to devise a system for managing foreign exchange that would not harm any country. The delegation decided that world currencies would no longer be pegged to gold but to the US dollar means, all other currencies will be backed by US dollar and the US dollar will eventually pegged to gold. The price of one ounce that is 28. 35 grams of gold was then set at $35. This arrangement became known as the Bretton Woods Agreement. Here the question arises, what could these 44 countries have benefited from this agreement?

So friends, because at that time, America had the largest gold reserves and most of the countries in the world had depleted their gold reserves due to war. So they don't have gold to issue more currencies so they accepted to peg their currencies with US dollar rather than gold.

However, under this act, it was the responsibility of US to print only as much of money as there are gold reserves available equivalent to that value of currency. In this way, the currencies of these countries, although not directly, but were indirectly linked with gold. Under this system, the authority of central banks was established which would maintain fixed exchange rates between their currencies and the US dollar while the return of gold to a country at a fixed price in exchange for US dollars, was part of this agreement.

In this agreement, US dollar was accepted as international trade currency. Because of this agreement, two countries could trade easily without even trusting each other. For example, if Great Britain exports $1 million worth goods to France it was sure, that it can buy a specific amount of gold from the US for $1 million it receives from France. On the other hand, if it receives this money in French currency "francs" then if today, 1 million francs can be exchanged for 1 kilogram of gold it is possible that after a month France will print more currency which will depreciate the French currency, francs and with this 1 million francs, Britain can exchange may be 700 grams of gold instead of 1Kg.

Thus, all the value of this trade will be practically lost. Moreover, if Britain wants to use these francs for trade with another country, and that country itself does not trust francs, then that money will be of no use to Britain. But if all this trade is done in US dollars, which became most powerful country at that time, the US guarantees that a specific amount of gold can be withdrawn at any time in exchange for dollars. So any country can trade anything with any other country in dollars because they know for sure that they can exchange the gold anytime, in exchange of these dollars.

Establishment of World’s Bank and IMF

Importantly, the Bretton Woods Agreement resulted in the establishment of two major financial institutions. One is the World Bank and the other is the International Monetary Fund, that is, the IMF. Because most of the countries were suffering from economic collapse after the two world wars so, all these countries needed loans to restore their infrastructure and economy. So, with US funding, the World Bank gave massive loans to these countries for their recovery. In addition, the IMF monitored the world economy as a whole and provided loans to small countries to ease their balance of payments difficulties.

Thus, the Bretton Woods agreement gave America a prominent position over other countries of the world and this was the first stage where the US dollar gained precedence over all other currencies and it emerged as a global currency.

Petrol Trade in Dollars

Let us now discuss the second step or the second reason which proved decisive in making the dollar a global currency. Let's get back once again to the Second World War where on one side Britain, France, Russia, America, Germany, Italy and Japan are at war and on the other side the Arab countries are relaxing in the desert, oblivious to these war disasters. They probably didn't even know they were sitting on world's largest oil reserves.

At that time, the United States and Great Britain were the only countries that had the ability to extract oil from the ground, process and trade it. Meanwhile, in 1938, an American company discovered a large oil deposit in Saudi Arabia and began extracting oil from it. At that time, Saudi Arabia was not so prosperous economically, because oil had just started to be extracted from their land. So, during the war, Italy shelled several times on the US installations on the land of Saudi Arabia. Saudi Arabia was in a dire need to protect their land and these oil facilities

It was at this time that the then president of the United States, Franklin Roosevelt, realized that oil will be the most important thing today and in future for development. So, after a long meeting with the Saudi ruler, King Abdulaziz, he made a historic deal in 1945 that permanently changed the fate of the dollar. According to this deal, the US will help Saudi Arabia to avoid any possible attack in the future.

For this purpose, they will provide Saudi Arabia with all kinds of advanced weapons and in return, Saudi Arabia will sell its oil against US dollars. Thus, oil was sold in dollars and from here the rise of Middle East countries started. After the establishment of the Organization of the Petroleum Exporting Countries (OPEC) in 1960, all oil trade in the world started to be done in dollars. But friends, the question arises here, how did the dollar become the strongest currency in the world by trading oil for dollars? To find this, we discuss the third phase that eventually made the dollar a global currency.

Dropping the Link Between Gold and Dollars

Friends, According to the Bretton Woods agreement, any country could receive a fixed amount of gold from the US in exchange for dollars as a result, in 1970, the gold reserves of the United States decreased to only ten thousand tons. This was the time when it became almost impossible for the US to exchange gold for dollars. At this point, then US President Richard Nixon temporarily canceled the gold exchange rate against the dollar and now, the Bretton Woods agreement effectively terminated.

Now every country in the world was free to set the exchange rate of its currency but no currency was now linked to gold because all the currencies were linked to US dollar and US dollar was directly linked to gold. So now the measure of value of any currency was not the gold attached to it, but the use of that currency or its demand in international market determine its value That is, it became important to know where your currency could be used and what it could buy.

In this context, the US dollar was the currency with which you could buy the most important commodity of the century, which is oil. Therefore, most countries still kept their foreign exchange reserves in dollars to buy oil from the Arab world.

US Treasury Bonds

Friends, an important aspect here is that prosperous countries have huge foreign exchange reserves while they use only a certain amount of it for trade. For example, if a prosperous country has reserves of $100 billion, he could be utilizing only $20 billion of that for trade it will have remaining $80 billion in reserves. Just as, instead of holding, we prefer to invest our savings in stocks, savings certificates or bonds in the same way, these countries invest their excess foreign exchange reserves in US treasury bonds. These treasury bonds are issued by the US government and various countries invest in them with the aim of getting reasonable returns in the future.

According to the Federal Reserve and the US Department of the Treasury, as of May 2022 foreign countries held approximately US$7.4 trillion in US Treasury securities. This huge amount is more than the combined GDP of France, India and Russia. With this vast amount of money, the US has the added advantage of funding economic growth, defense spending, industrial production, and even large financial institutions such as the World Bank and the IMF. And with these vast economic resources, the US gains an unfair control over other countries Not only this, if a country tries to go against their will, their dollar reserves in the United States can be frozen an example of this is the sanctions imposed on Russia recently.

So Friends, now American currency is the strongest currency of the world and America controls it. There is no restriction to back that currency with gold. Friends, based on all these reasons, the status of America is a superpower and the US dollar is considered as a strong global currency. By the way, now a few countries of the world have started using their local currency for trade among themselves, but the need for the dollar in global trade and its importance in the world's economic system is still the highest today.

So how you find this article? what do you think that US dollar will loose its value or its supremacy remain intact?