The Direction of Dollar Dominance

Abstract

This literary review uses new theoretical work on dominant currency to reflect the past and future of the US dollar’s role as a dominant currency. Two main questions are investigated in this thesis: How the dollar rose to an unrivalled role as dominant currency? and Can the dollar’s role be sustained? In the current global economy, the dollar has a leading role internationally as a medium of exchange, unit of account, and store of value. The theoretical framework on dominant currency connects a currency’s role in invoicing and as a safe asset. Theory suggests dominant currency forms a self-enforcing cycle, which lowers returns of the dominant currency. This causes invoicing to encourage use as a safe asset and vice versa. The dollar’s rise to its present currency dominance in the 1920s was supported by WWI and active promotion by the Federal Reserve. Internationalization of the Chinese renminbi draws similarities to the dollar’s rise, however literature lacks consensus on if a potential rise of the renminbi would threaten the dollar’s current role.