What Happens If The Dollar Loses Its Status As Reserve Currency?

The dollar would probably fall somewhat, but that’s about it. It would not collapse and it would not lose its position as the world’s major reserve currency, much less as a reserve currency at all. Nor would it lose its position as the most widely used currency in the world.

Furthermore, it would probably be in the interests of the US if it did lose its reserve status, because that is actually a burden on the US economy, not a benefit as many people imagine.

Why does pricing oil in dollars help the dollar? Because all countries have to buy dollars to buy oil, but these dollars don’t necessarily get recycled back to the country that bought them. Let’s say for example that Country A buys $1bn of dollars to pay Country B for oil. What does Country B do with the dollars? If it used them to buy goods & services from Country A, there would be no net effect whatsoever. It would be a “wash trade.” But it doesn’t always work that way. Country B may use the dollars to buy stuff from Country C…and Country C might be the US. Or, it may spend half the money back in Country A and then decide to save the other half by putting it into US Treasury bonds. In that way, the purchase of oil in dollars results in a net global demand for dollars.

However, the question then is…is this a good thing for the US? If they used the dollars to buy goods and services from the US, yes probably it would be. But if they save a good portion of the money in dollars, as they do, then there’s a good case to be made that it’s a bad thing. It causes the US to have a huge surplus on its financial account. The inevitable counterpart of that is a deficit on its current account, i.e. a trade deficit. And that means lost employment through the loss of jobs to imports. It therefore also means lost tax revenues for the government and leads to higher government borrowing, which then needs to be covered by borrowing from abroad! So those politicians who encourage this system because they want to fund the government easily and keep interest rates down are only thinking of half the equation.