The Rise and Fall of the Dollar. Part I: The Price of Abundance

Part I: The Price of Abundance

The modern world economy is captive to an extremely unsafe illusion called "dollar abundance." Since the US Federal Reserve stopped publishing the M3 money aggregate in 2005, the actual volumes of dollars circulating in the world economy are not precisely known. Statistics on stocks issued on the world market, bonds, and futures contracts on the derivatives market provide an approximate idea of these volumes. By the end of 2024, their total volume amounted to 967.8 trillion dollars (122.7 + 145.1 + 700 trillion respectively). If we add to this amount 156 trillion dollars, which constitute the world money supply under the M2 aggregate (demand deposits plus time deposits), the size of global liquidity increases to 1,124 trillion dollars – equivalent to ten world GDPs. By the most modest estimates, approximately half of this amount is denominated in US dollars, which is five times the size of value added actually produced in the world.

Due to this disproportion, dollar liquidity does not find productive use and constantly moves from one speculative asset to another, periodically provoking the inflation and collapse of financial bubbles in different corners of the planet. Today, one such "corner" is the Japanese stock market, where the influx of foreign speculative capital over the past few years has led to its galloping capitalization. Let us recall that Japan once experienced an incredible stock market boom when in 1987 its capitalization exceeded that of the entire US stock market by 15%. However, already in 1990, the US sharply withdrew its capital from the Japanese islands, which was marked by one of the largest stock market crashes in history. The losses of the "land of the rising sun" amounted to the size of three annual GDPs, and the Japanese "economic miracle" ended with two "lost decades," during which Japanese banks were engaged in cleaning their balance sheets of "toxic" assets. China timely drew the right conclusions from the Japanese experience, imposing restrictions on the financial account of the balance of payments, which allowed the Celestial Empire to protect its economy from the negative consequences of capital outflow. One can only hope that the next Japanese bubble will not suffer the same fate.

Why, despite its speculative nature, does the dollar maintain such high trust in the world economy as the global currency? To answer this question, let us examine the institutional foundations of the global dominance of the American monetary unit.

For 82 years now (since the Bretton Woods conference), the US dollar has played the role of first violin in the international monetary orchestra, with the International Monetary Fund serving as its unchanging conductor. Although the IMF is a specialized UN institution representing the interests of 191 member countries, in fact, it is an unwavering advocate of the policies of its main shareholder – the USA. The Fund's headquarters is located in Washington, just a few blocks from the White House. The politicization of the IMF is particularly evident during political crises, when countries showing disloyalty to Uncle Sam face the freezing of their official international reserves. Unlike other international financial organizations, the IMF's capital is paid in 100%. This creates for the IMF the image of the most capitalized financial institution in the world, with resources available for financial assistance exceeding one trillion dollars. Notably, 75% of the IMF's capital consists of national currencies of member countries, most of which are convertible and can be quite calmly used by other states for settlements in foreign trade. Meanwhile, IMF financial assistance is provided predominantly in dollars. Thereby, the Fund artificially creates a shortage of international liquidity, thereby emphasizing the special status and global authority of the American monetary unit.

It must be acknowledged that as a world currency, the dollar has significantly contributed to the growth of international trade and investments. Since the beginning of the 1950s, the volume of international trade has increased 380 times, and the amount of accumulated direct foreign investments in the US alone has grown 5,000 times. However, a side effect of this seemingly favorable development for the entire world community has been the differentiation of per capita incomes. For example, during the period 1996–2024, relative per capita incomes in Japan, as a percentage of per capita incomes in the US, decreased threefold – from 128.4% to 38.8%. A similar decline occurred in other countries – issuers of the big four currencies: Germany and the United Kingdom. It should be emphasized that in this case, we are talking about incomes expressed in market world prices, not about the purchasing power of national monetary units in the domestic market (table).

Table – GDP per capita, as a percentage of US GDP per capita, in 1990-2024, in market current US dollars

This decline in relative income levels is associated with the chronic overvaluation of the dollar. And even if the dollar's exchange rate temporarily falls relative to the currencies of the US's major trading partners (as is happening now), this does not lead to a corresponding adjustment of prices in other countries. In response, US counterparties either devalue their own currencies to protect the competitiveness of national exporters or raise interest rates to avoid capital outflow and the formation of a shortage of financial resources in the domestic market. Both actions invariably provoke consumer price inflation.

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The volumes of dollar liquidity circulating in the world economy far exceed the size of world GDP. In search of profitable placement of "hot money," owners of unproductive dollars frantically move them from one speculative asset to another, temporarily creating an illusion of prosperity in different parts of the planet.

The consent to the overproduction of dollars comes from IMF member countries, controlled by the US government. The latter is interested in the indefinite continuation of the "dollar banquet," which is confirmed by the aggressive sanction and trade policy of the Trumpists.

The unlimited multiplication of dollar liquidity is the cause of the chronic lag of almost all countries of the world behind the USA in such an indicator as real per capita incomes. However, sooner or later Washington will have to pay the bills. And this time is inexorably approaching.

We will discuss the risks of "dollar abundance" in the next article.

Author: Doctor of Economic Sciences, Professor of the Department of World Economy and World Finance at the Financial University under the Government of the Russian Federation Alexey Vladimirovich Kuznetsov.