This month marks the 50th anniversary of the end the Bretton Woods system, when U.S. President Richard Nixon suspended the U.S. dollar’s convertibility into gold and allowed it to float. We are also approaching the 20th anniversary of the Taliban’s removal from power in Afghanistan at the hands of U.S.-led coalition forces. Now that the Taliban has again prevailed, we should consider whether its victory over the world’s most powerful military and largest economy will have any implications for the dollar and its role in the world.
Looking back over the 50 years since Nixon closed the gold window (39 of which I spent being professionally engaged in financial markets), the biggest takeaway is that the floating-exchange-rate system, and the dollar’s dominant role in it, has turned out to be more robust than initially expected. Even knowing what we know now about the evolution of the world economy, most experts would have doubted that the system could survive for as long as it has.
Given this resilience, it is tempting to dismiss America’s failure in Afghanistan as inconsequential for the dollar. After all, the greenback weathered the fall of Saigon in 1975 and the debacle in Iraq following the U.S. invasion in 2003. Why should this time be any different? Ultimately, the answer depends on one’s expectations about the evolution of the world economy and the behavior of its principal financial players, namely China and the European Union.
To understand the dollar’s prospects, consider three key reasons why the current system has persisted. First, most countries did not choose to have their currencies float freely against the dollar. Even though more countries have floated their currencies in recent decades, others have maintained fixed exchange rates, devised their own regional exchange-rate relationships, or launched a common currency— as in the case of the euro.
Second, and on a related note, the few countries that had enough economic heft to influence the global monetary system—Japan, Germany (previously West Germany), and, more recently, China—made a conscious decision not to do so. True, the German Deutsche Mark played a regional role from 1973 until the establishment of the European Monetary Union in 1992 and the introduction of the euro in 1999. But beyond that, Germany consistently took steps to keep its currency from assuming a larger global role.
Moreover, German authorities have persistently opposed the idea of pan-European bonds (notwithstanding the EU’s decision last year to launch a Covid-19 recovery fund based on mutualized debt obligations). Without a common budget, the euro will always be held back from competing with the dollar or playing a much bigger role in the world financial system.
As for Japan, it never showed any interest in a global role for the yen, even in the 1980s and 1990s, when it was fashionable to believe that the Japanese economy would catch up to that of the United States.
Finally, despite its frequent objections to the current global monetary system, China has long been reluctant to expand the renminbi’s footprint in financial markets—both internally and internationally. Instead, China has indicated occasionally that it would prefer a global monetary order centered more around the special drawing rights (SDRs), the International Monetary Fund’s reserve asset, whose value is based on a basket of five currencies (the U.S. dollar, the euro, the renminbi, the yen, and the British pound).