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World: Signs Grow Of Dollar Losing Favor As World’s Reserve Currency

For years, central banks around the world have held most of their foreign currency reserves in U.S. dollars. Now, there are signs that central banks are shifting away from dollar assets and into other currencies, such as euros. That's mainly because the dollar's value has fallen so much in the past three years. Experts say the gradual shift away from the U.S. currency is likely to continue -- suggesting there's more dollar weakness ahead.

Prague, 24 February 2005 (RFE/RL) -- It began with Russia. Over the past few years, the Russian Central Bank has reduced the share of dollars in its foreign currency reserves.

Then Indonesia said it, too, was considering such a move.

On 24 February, Bahrain's central-bank governor said the euro is increasingly emerging as an international reserve currency.

And reports the next day -- later played down -- suggested South Korea planned to sell some of its dollar reserves.

Ashraf Laidi, a currency analyst in New York, said it's clear why "diversification," a trend by countries to hold more of their reserves in currencies other than the dollar, is a hot topic just now.

"This talk is really part of central banks' growing unease with holding on to a currency that has lost approximately 30 percent of its value over the last three years. It makes sense [for them] to hold on to something that does not lose its value," Laidi said.

Experts say it's difficult to say with certainty to what extent the shift is under way. Central banks often don't give out such information.
When central banks sell large amounts of dollars, the dollar loses value in the foreign-currency exchange market.

But a survey last month by Central Banking Publications showed many central banks have increased the share of their reserves held in euros.

They may not be actually selling dollars -- just buying fewer dollar assets, such U.S. government bonds, and more denominated in other currencies.

Laidi said it's a gradual shift. "Russia two years ago started off with nearly 90 percent holdings in U.S. dollars, and now today that proportion in U.S. dollars has fallen to just below 80 percent," he said. "And some central banks are either considering or making some moves towards that. Many central banks don't disclose the exact denomination in which currencies they have foreign exchange reserves. But currency traders have reason to believe the move is under way, albeit in a gradual manner."

To be sure, not all players are diversifying. Japan, the biggest foreign holder of U.S. bonds, said yesterday it has no plans to increase the share of euros in its reserves.

But experts say any shift is important. One reason is that when central banks sell large amounts of dollars, the dollar loses value in the foreign-currency exchange market.

So any sign the biggest customers, central banks, are curbing their enthusiasm for U.S. dollar assets is bad news for the U.S. currency.

Gianluca Benigno from London's School of Economics said the trend is likely to continue. "The euro is an alternative reserve currency that the central banks are considering is becoming more liquid and important," he said. "It's likely to become a topic of discussion in the next months. It came already months ago when Russia started releasing news about this diversification strategy, There will probably be more news in the next months similar to this."

As Benigno notes, the shift also reflects the rising importance of the euro.

So could the dollar lose its status as the world's chief international currency? Experts say it's possible the euro will at some point rival the dollar. But Malcolm Sawyer, an economics professor at Leeds University, said that's still a long way off.

"I could see a time, maybe 10-20 years hence, when the euro and the dollar have equal status, but I think that is really some time off," Sawyer said. "We are still in a position where much trade is financed through the use of dollars and many things like oil are priced in dollars and dollars are widely accepted in many countries in the world. So I think that for a long time the preeminence of the dollar will continue, although relevant to the euro it won't be quite as preeminent as it has been."