US Dollar Dominance as Reserve Currency and Risks from Tariffs

Is Trump’s Tariff Policy a threat to US Dollar Reserve Currency Status?

The U.S. dollar has dominated global trade finance and reserve currency status for seven decades, supported by factors like liquidity, widespread use, and trust in U.S. economic and legal institutions. Despite periodic challenges, no credible alternatives have emerged due to lack of comparable financial market openness or stability. However, recent policies under President Trump, such as steep tariffs on trading partners and weaponizing economic power, pose the greatest threat to the dollar’s dominance in generations. These actions risk undermining global trust, encouraging countries to seek alternatives, and damaging U.S. economic strength and influence.

Key Points

• The dollar’s dominance stems from liquidity, widespread use in trade invoicing, stable store of value, and large open U.S. financial markets.
• No major rival currencies (euro, renminbi) currently meet all these criteria; efforts like BRICS currency or cryptocurrencies face significant barriers.
• Trump’s aggressive tariffs, sanctions, and eroding rule of law threaten to weaken global trust in the dollar. US actions (tariffs, sanctions) have incentivized parts of the world to seek alternatives.
• Alienating allies and destabilizing trade relations could encourage shifts away from the dollar toward alternatives like China’s CIPS payment system.
• Declining dollar status would harm the U.S. economy and global economic growth due to higher costs and complexity in trade finance.
• History shows reserve currency status is not permanent; the dollar’s future depends on policy choices today.

What are the Alternatives to the US Dollar?

The Euro and Chinese Renmimbi could be two alternatives. Additionally, some argue for gold, crypto currencies and a BRICs currency. The Euro is a flawed currency compared to the dollar plus it lacks full geopolitical strength. The Chinese Renmimbi should have a larger role but not because of trust issues under an authoritarian government. In addition, it is not fully convertabe. Gold and other non-US assets can be important in a diversification strategy, but none of these are serious options.

Despite ongoing speculation about the U.S. dollar losing its status as the world’s primary reserve currency, recent data and trends indicate that the dollar remains dominant. The dollar has appreciated over the past decade, supported by strong U.S. economic growth, higher interest rates compared to other major economies, and substantial foreign demand for U.S. assets. Although some countries discuss “de-dollarization,” alternative currencies lack the necessary market depth, liquidity, and global trust to replace the dollar in the near term. The dollar still accounts for about 60% of global reserves and 80% of financial market transactions. Gradual diversification away from the dollar may occur long-term but requires significant structural changes globally. In summary:

Dollar Strength: The U.S. dollar is near a 15-year high versus other currencies, driven by higher U.S. interest rates and safe-haven status.

Foreign Demand: Foreign holdings of U.S. Treasury securities and other assets have grown steadily, supporting dollar demand, except for a recent blip.

Reserve Currency Status: The dollar still makes up about 60% of global reserves despite a slight decline over 20 years.

Lack of Alternatives: No other currency currently matches the U.S. dollar’s liquidity, market size, and convertibility needed for reserve currency status.

Long-Term Outlook: A multi-currency system may evolve gradually, but substantial political and structural shifts are needed; meanwhile, investors should consider global diversification.

Implications for Policy and Global Economy

Maintaining the dollar’s dominance requires restoring confidence through consistent, transparent, and multilateral economic policies. The U.S. must balance assertive economic leadership with cooperation to sustain the dollar as the preferred global currency. Key steps include:

Rebuilding Alliances: Strengthening relationships with key trading partners and allies is essential to preserve trust in U.S. commitments and institutions.

Promoting Open Markets: Ensuring continued openness and liquidity in U.S. financial markets encourages foreign investment and use of the dollar.

Modernizing Economic Policies: Adopting fair trade practices and predictable regulatory environments reduces uncertainty that can drive partners to seek alternatives. We must keep in mind that global trade is currently unbalanced and the purpose of the Trump tariffs is to renegotiate this to a more balanced system.  The US is still the most open country with the lowest barriers to trade.   It should be noted that agriculture and sensitive industries are more difficult to renegotiate if not impossible. 

Engaging in Multilateral Institutions: Active participation in global economic forums helps shape rules that support dollar usage and address emerging financial innovations responsibly.

Risks of Inaction

Without these measures, the U.S. risks accelerated erosion of the dollar’s role, which could lead to:

• Increased borrowing costs for the U.S. government.
• Reduced ability to impose economic sanctions effectively.
• Greater vulnerability to financial crises due to diminished liquidity.
• Fragmentation of the global financial system with competing currencies and payment mechanisms.

Conclusion

While the dollar’s dominance has endured for seventy years, it is not guaranteed indefinitely. The recent shift toward unilateral economic policies under the Trump administration introduces significant risks that could trigger a gradual realignment in global currency preferences. Preserving the dollar’s central role demands renewed commitment to stable, cooperative economic leadership that fosters global trust and mutual benefit. How this plays out in the end will depend on geopolitical decisions, economic policies, and technological advancements in finance.