reserve currency

Imagine the world needs one money that everyone everywhere will accept — a money so trusted that a Brazilian buying oil from Saudi Arabia, a Korean company paying a German supplier, and a central bank storing its rainy-day fund all reach for the same currency. A reserve currency is exactly that: a currency held in large amounts by governments and institutions worldwide, used to settle international trade, price global commodities, and store national wealth. For most of the last century that role has belonged overwhelmingly to the US dollar.

A currency earns reserve status not by decree but by trust and convenience, built over decades. To serve the role, a currency needs deep and open financial markets where huge sums can be parked and moved freely, a stable value, the rule of law, and an issuer big enough to supply the world's needs. The dollar checks all these boxes, which is why oil is quoted in dollars, most cross-border loans are in dollars, and roughly 60 percent of the world's official reserves are held in dollars. The euro is a distant second, with the yen, pound and increasingly the Chinese yuan playing smaller parts.

Being the reserve currency brings a famous prize and a hidden cost. The prize, once dubbed an 'exorbitant privilege,' is that the issuing country can borrow cheaply and pay for imports in its own money that the world is happy to hold, and its sanctions and financial reach become globally powerful. The cost is that constant world demand for the currency keeps it stronger than it otherwise would be, hurting the issuer's exporters, and saddles it with responsibilities for global stability. There is much debate about whether the dollar's dominance will fade — many have predicted its decline for decades, yet it has endured, because dethroning a reserve currency requires a credible, equally trusted alternative that does not yet clearly exist.