The debate over the dollar’s ability to maintain its dominant role in the global economy has intensified considerably over the past eighteen months.
For some, a tipping point is approaching at which the world will abandon the dollar. For others, the currency’s inherent strengths will make it resilient even in the face of the latest political uncertainties.
However, the analysis misses a crucial element: historical experience. The fall of sterling, the first truly global currency, suggests that the dollar’s decline is unlikely to be quick or simple.
Declining power means declining monetary dominance
The way a currency gains dominance can be explained in both economic terms and through geoeconomic analysis.
Economic theory links the rise of dominant currencies to self-reinforcing interactions between trade and financial activity. The more transactions are priced in a currency, the more demand there is for it. This lowers the cost of borrowing in that currency, which in turn further boosts demand.
At the same time, the geoeconomic approach links monetary dominance to power. In this context, a hegemonic power leverages the strength of its domestic economy to offer safe assets — usually government debt. As foreign investors are attracted to these safe and liquid assets, the hegemonic country strengthens its influence in the global financial system and reaps excess returns. However, at the same time, there is the temptation to overextend, that is, to issue more assets than can be safely backed.
Two main conclusions emerge from the above:
- first, that the decline of a currency is probably inevitable when an economy reaches its peak;
- and second, that the institutional and financial interdependencies that sovereignty creates make this decline extremely slow.
The case of sterling
The history of sterling confirms both of these findings. Britain was the dominant trading power of early globalization, accounting for about 30% of world trade in the late 19th century, a period when about 60% of international transactions were priced and settled in sterling.
One could argue that Britain’s military and geopolitical power peaked between the Napoleonic Wars and the Boer Wars. However, from this peak of power, sterling was not definitively displaced by the dollar until after World War II, retaining a significant international role until the 1970s. This is a process of decline that has lasted almost a century.
It is often argued that “this time it is different”, because there is no real alternative to the dollar. However, this argument is based on the simplistic assumption that only one currency can be dominant at a time. The historical experience of sterling proves otherwise.
The most comprehensive historical assessments show that the dollar and sterling were close competitors during the interwar period, while sterling also competed with the French franc and the German mark in the 19th century. Monetary dominance does not preclude the existence of strong competitors.
A currency dominates when it serves as the primary unit of account for safe assets—and that “safety” comes from scale and credibility, not from specific asset types or institutional structures.
The most sophisticated version of the “lack of alternative” argument argues that the dollar’s competitors have significant disadvantages, such as the limited liquidity and depth of the euro market or the limited openness of the Chinese currency.
However, two important facts are overlooked.
- First, the euro accounts for a larger share of global trade pricing than the dollar, although this is mainly due to intra-European trade.
- Second, the euro ranks second in global foreign exchange reserves, with about 20%, while the dollar has fallen from almost 75% to below 60% over the past 25 years.
At the same time, China and the eurozone are more important trading partners for many countries than the United States. In this context, a series of reforms that enhance the liquidity and competitiveness of capital markets could enhance the role of the euro and the yuan. As the experience of sterling shows, alternatives do not need to be perfect to gain a significant international position.
Technology and Currency Dominance
A more recent argument for dollar dominance focuses on technology, arguing that the rise of dollar-backed stablecoins will maintain demand.
However, this ignores the real mechanism of monetary dominance. Again, sterling offers a useful example: its safe assets were not government-backed but highly liquid private bank notes, which were then backed by commitments to low inflation, sound public finances, and the size of the British economy.
Simply put, a currency dominates when it is the primary unit of account for safe assets, and that safety comes from the scale and reliability, not the technological form of the assets.
The slow and uneven decline
Why has sterling’s decline been so prolonged? Because many factors have had a vested interest in its preservation. Its international use continued after World War II, partly because of the shortage of dollars, but mainly because large reserves of sterling had accumulated.
Their rapid liquidation would have caused destabilization of the international monetary system and losses in value. Thus, a complex system of controlled depreciation of sterling was formed.
Accordingly, today, dollar assets are widespread, which makes a sudden collapse unlikely, as it serves no one.
The gradual decline of sterling was not linear but was interrupted by crises: in 1931 with the collapse of the gold standard, in 1949 with adjustments to the Bretton Woods system, and in 1968 with its final collapse.
These crises were accompanied by domestic economic difficulties, such as:
- the “stop-go” policy,
- persistent deficits, and
- the need to resort to the IMF, which peaked in 1976
The dollar today
The decline in the dominance of a currency does not necessarily imply immediate devaluation. The experience of sterling shows that the development can be more complex, influenced by monetary policies and inflationary pressures.
Today, the strengthening of the dollar after the attack on Iran largely reflects the role of the United States as an energy exporter. However, more indicative are the episodes surrounding the “Liberation Day” tensions and the disputes over Greenland, where US stocks fell, bond yields rose, and the dollar weakened.
This combination of moves has surprised many analysts and is putting pressure on a currency.
There is no doubt that the 21st century is different from the 20th. However, the same forces that led to the decline of sterling — the relative decline in economic and military power — appear to be affecting the dollar as well. The decline may be slow, but the pressures are already visible.
