Treasurys are widely used as collateral for loans, as a buffer against bank losses, as a haven in times of high uncertainty and as a place for central banks to park foreign exchange reserves.
Given their perceived safety, the US government’s debts – Treasury bills, bonds and notes – carry a risk weighting of zero in international bank regulations. Foreign governments and private investors hold nearly US$7.6 trillion of the debt – roughly 31 per cent of the Treasuries in financial markets.
Because the dollar’s dominance has made it the de facto global currency since World War II, it’s relatively easy for the United States to borrow and finance an ever-growing pile of government debt.
But high demand for dollars also tends to make them more valuable than other currencies, and that imposes a cost: A strong dollar makes American goods pricier relative to their foreign rivals, leaving US exporters at a competitive disadvantage. That’s one reason why the United States has run trade deficits every year since 1975.
Of all the foreign exchange reserves held by the world’s central banks, US dollars account for 58 per cent. No. 2 is the euro: 20 per cent. China’s yuan makes up under 3 per cent, according to the IMF.
Researchers at the Federal Reserve have calculated that from 1999 to 2019, 96 per cent of trade in the Americas was invoiced in US dollars. So was 74 per cent of trade in Asia. Elsewhere outside of Europe, where the euro dominates, dollars accounted for 79 per cent of trade.
So reliable is America’s currency that merchants in some unstable economies demand payment in dollars, instead of their own country’s currency. Consider Sri Lanka, battered by inflation and a dizzying drop in the local currency. Earlier this year, shippers refused to release 1,000 containers of urgently needed food unless they were paid in dollars. The shipments piled up at the docks in Colombo because the importers weren’t able to obtain dollars to pay the suppliers.
“Without (dollars), we can’t do any transaction,” said Nihal Seneviratne, a spokesman for Essential Food Importers and Traders Association. “When we import, we have to use hard currency – mostly the US dollars.’’
Likewise, many shops and restaurants in Lebanon, where inflation has raged and the currency has plunged, are demanding payment in dollars. In 2000, Ecuador responded to an economic crisis by replacing its own currency, the sucre, with dollars – a process called “dollarisation’’ – and has stuck with it.
Even when a crisis originates in the United States, the dollar is invariably the go-to haven for investors. That’s what happened in late 2008, when the collapse of the US real estate market toppled hundreds of banks and financial firms, including once-mighty Lehman Brothers: The dollar’s value shot up.
“Even though we were the problem – we, the United States – there was still a flight to quality,’’ said Clay Lowery, who oversees research at the Institute of International Finance, a banking trade group. “The dollar is king.’’
If the United States were to pierce the debt limit without resolving the dispute and the Treasury defaulted on its payments, Zandi suggests that the dollar would once again rise, at least initially, “because of the uncertainty and the fear. Global investors just wouldn’t know where to go except to where they always go when there’s a crisis and that’s to the United States’.’
But the Treasury market would likely be paralysed. Investors might shift money instead into US money market funds or the bonds of top-flight US corporations. Eventually, Zandi says, growing doubts would shrink the dollar’s value and keep it down.