This article first appeared in Forum, The Edge Malaysia Weekly on March 24, 2025 - March 30, 2025

Even as early as 1965, Valéry Giscard d’Estaing, the then French finance minister, had complained about the “exorbitant privilege”, a phrase he coined, to describe the massive advantage the US derives from the dollar’s hegemony of international finance. The year 1965 was, of course, when the Bretton Woods currency framework was still in place. Bretton Woods, a gold parity-based, fixed exchange rate system, had the US dollar, which was fully convertible to gold at US$35 per ounce, as its reserve currency. As countries could keep their reserves either in gold or US dollars and as the US gained stature as an economic power post-WWII, the dollar began to dominate global finance. Ironically, even the collapse of the Bretton Woods system in the mid-seventies, which meant that the dollar was unpegged from gold and was mere paper money, appears to have had little impact on the dollar’s prominence. Today, some 70% to 80% of all global trade continues to be invoiced in dollars and the US continues to enjoy its exorbitant privilege. That the US alone gets such an advantage appears to have been accepted by the rest of the world in exchange for the stability, transparency and freedom of exchange the dollar provided. And so, the dollar has thus far been taken as an impartial international means of exchange. But the recent tantrums coming out of Washington upset this long-held arrangement and necessitate a rethink of the global dependence on the dollar.

The dollar’s dominance offers the US its exorbitant privilege through several advantages. There are three key advantages.

The first advantage arises from the need of the rest of the world to hold dollars to facilitate their cross-border transactions. This perpetuates the demand for the dollar and increases that demand as countries grow and global trade increases. This perpetual demand enables the dollar to hold its value even when the US’ economic performance is wanting.

Second, as the main reserve currency, central banks hold US dollar reserves by investing in US Treasury bills. The massive demand that this creates for US Treasury bills acts to reduce their yields, effectively lowering the interest cost for the US government. It also means that the US can keep borrowing by simply issuing new Treasuries as existing ones mature. With a debt of US$36 trillion (RM159 trillion) or 120% of gross domestic product (GDP), the cumulative savings in interest costs should easily be in the hundreds of billions.

The third and perhaps the biggest advantage arises from seigniorage. Foreigners holding dollars in cash form are effectively providing interest-free funding to the US. As dollar holdings increase, the benefit from seigniorage increases proportionately. In quantifying these benefits, various researchers have estimated them to be about 0.5% of GDP. For the 

US$30 trillion GDP that the US has, these are massive benefits that are accruing continuously.

More important than the above advantages is the fact that the dollar’s position has given the US immunity, at least until now, from market discipline. Any other country that lived beyond its means as the US has would have had to sharply devalue its currency, severely cut spending, raise taxes and endure both the inflation and recession that could result. The cheap financing the rest of the world provided the US for the dollars they needed has not only enabled the US to sustain its profligate ways but also to weaponise the dollar and tweak the rules to its advantage. Without the privilege that the dollar accords, many of Trump’s ultimatums would ring hollow.

The question that arises is why, despite the years of complaining, the dollar has remained dominant. The answer is that there simply isn’t an alternative. The euro, which once looked like a potential rival, just doesn’t have the size nor the liquidity needed to rival the dollar. Europe’s own problems with debt and growth do not help. The renminbi suffers from regulatory limitations such as capital controls and issues of transparency. Others, like the yen or pound sterling, simply do not have the heft needed to rival the dollar. Furthermore, many countries do not necessarily want their currency to be internationalised, given the potential impact on their domestic monetary policies. And so, the dollar continues to reign supreme. It is the potential erosion of these exorbitant privileges and power that the dollar now accords the US, which so rattles Trump, that he threatens 100% tariffs on any country that tries to move away from the dollar.

Tariffs notwithstanding, it is clear that the world now needs an alternative to the dollar. This alternative cannot simply be the adoption of yet another currency like the renminbi, yen or euro in lieu of the dollar, because the same problems of dominance would recur in due course. To be a truly functional and equitable international currency, it has to meet several criteria.

First, it must not be controlled by any one country nor based on any one currency. It should be a supranational currency, initiated and adopted by a group of countries, for example, BRICS.

Second, for it to have the credibility and transparency, Keynes’ idea of Bancor, which was a virtual currency managed by a supranational central bank (like the European Central Bank) combined with the GDP-weighted framework of the European Currency Unit (ECU), which preceded the euro, should be considered. Recall that the ECU was a virtual statistical currency reflecting the combined economic strength of 12 member countries, weighted by GDP. For a diverse grouping like BRICS, a single common currency like the euro would simply not be feasible nor logical from an economic viewpoint. The rigidity, loss of monetary policy independence and the subjugation of domestic needs to exchange rate maintenance would not be politically palatable. A more feasible option would be a target zone area (TZA) based on an ECU-like virtual/statistical currency. Under the European TZA, each participating currency was linked to the ECU at a fixed rate. However, to avoid a fixed peg and the policy restrictions that come with fixed pegs, currencies were allowed to fluctuate within a given band. The band, first set at +/- 2.25%, was later raised to 6% and in some cases to 15%. These flexible bands enabled participating countries to benefit from the stability afforded by the currency arrangement without sacrificing their economic and political sovereignty. While participating countries will have to meet needed convergence criteria, the system can be kept flexible enough for nations to adequately meet domestic requirements.

Apart from providing an anchor for participating currencies and thereby reducing volatility, the statistical anchor currency can be an invoice and settlement currency for trade and the denomination currency for sovereign bond issuance, as was the ECU. Most importantly, it will enable participating nations to move away from dependence on the US dollar and the increasing subjugation it demands.

History has shown that a currency derives its stature from the international stature of its issuing nation. Trump’s threats, tantrums and capricious behaviour cannot help but erode his nation’s stature. For now, the absence of a viable alternative is the only thing holding up the dollar. Currencies determine a nation’s terms of trade and its economic well-being; it is far too important to be left to the whims of one individual.

Dr Obiyathulla Ismath Bacha is professor of finance at INCEIF University

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