In theory, Juliet Samuel notes, the dollar ought to be a medium of exchange like any other, only useful to foreigners who want to trade with Americans, but in reality, dollars, in the form of US Treasury bonds, have become the backbone of the world’s piggy bank:
The dollar solves a dilemma. When a country accrues lots of savings, perhaps because it sells huge amounts of oil or has built a whole economy around battery or semiconductor exports, it needs to store the cash. Storing it in the country’s own currency presents two problems.
The first is that a lot of these supersaver countries have volatile exchange rates because they are ruled by capricious, thieving dictators, or because their financial markets are very small so it’s risky to have all the money in local lira or whatever. The second is that if they convert their savings into local cash, they’ll push their exchange rate up, and that will make their exports more expensive until they become uncompetitive, killing the golden goose. This, incidentally, is how a healthy trading system ought to rebalance itself.
So they don’t let that happen. Instead, what all these governments and sovereign wealth funds (and a few rich families or pensions) do is buy US Treasury bonds. Treasury markets are big and stable, open to anyone and underpinned by the rule of law.
When the US was by far the world’s biggest economy, this activity didn’t affect Americans much. In fact, letting the dollar become so important gave the US exceptional power to sanction foreigners and to borrow, seemingly without limit. But over decades, and especially since China became a full-fledged member of the trading system in 2001, the US economy has become smaller and smaller relative to the rest of the world, while the savers have become bigger and bigger. We are now at the point where there are an estimated $7 trillion worth of bonds squirrelled away as reserves by non-US savers: $3 trillion in China, the rest in Japan, Europe, Taiwan, Saudi Arabia, Korea and Singapore. This has inflated the value of the dollar to the point where it is pricing American exporters out of the game. Products made using dollars and priced in dollars are just too expensive.
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Back [during Trump’s trade war in 2018–19], the tariffs were not actually paid by consumers. As far as one can tell from the data, they were paid in two ways: first, US importers accepted lower margins on goods bought from abroad, and second, the dollar rose in value, boosting US spending power almost by exactly as much as Trump had put up tariffs.
Self-evidently, a rising dollar is not what a Trump White House would want if its aim is to revive American manufacturing. But this underscores a central trade-off not just with tariffs but with any solution to the problem of gargantuan trade and currency distortions: someone, somewhere has to pay. If Trump lets the dollar appreciate, then American consumers don’t have to bear the cost. But then American factories won’t recover either. So the whole trick, as far as US policy is concerned, is to get the rest of the world to pay.
If there is a grand strategy behind the trade war, which there certainly is in the mind of Trump appointees like the Treasury secretary Scott Bessent, it is an opening salvo in a struggle to fix the US trading position and to sort allies from enemies in doing so. Start with tariffs on everyone, let them feel the pain, then offer relief to those willing to help gradually deflate the dollar by slowly selling down Treasuries, opening up their own markets to US goods and agreeing to impose a tariff wall on China.
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At the same time, domestically, the US could embark upon a massive deregulatory programme to cut production costs, pump more oil, clear away planning hurdles, cut payroll taxes and so on.
A country that has a reserve currency, like the US, must run trade deficits to maintain liquidity in the international markets.
Is it possible to separate out the “reserve currency” concept inasmuch as it relates to trade from the reality that U.S. dollars are created in the U.S. banking system as debt, that is, with interest?