28th October 2013

While the US teetered on default, the dollar held steady. Perversely, even while America’s economy and political system showed their weaknesses, its currency remained strong.

The truth is that the world has nowhere else to go and already has so much invested in the US that it cannot allow it to fail.

Even the threat by a second credit-rating agency to strip the country of its AAA status did not deter investors from buying dollars. If Congress had not agreed a temporary increase in the debt ceiling, the US would by now be defaulting on repaying its sovereign debt: even so the world was still prepared to buy American government bonds.

The fact is that the dollar is the world’s reserve currency. Sterling punches above its weight but Britain is a mere bit-player on the international stage. The euro, even without its internal stresses, has failed to displace the dollar and while China may be driving global growth, the renminbi is not yet the convertible currency that other countries trust.

So however much trouble the US is in, the dollar remains the world’s currency of choice. The proceeds of China’s exports to the world are being re-invested in dollars just as Japan previously banked its profits in America.

The US funds its deficit by selling bonds to foreign investors. Those bond buyers know they are investing in an inherently weak economy but have a vested interest in supporting it if they want their investment to retain its value.

Congress blinked just before the US economy hit the debt ceiling, but it has merely postponed the day the money runs out. The economy that likes to live on the edge will be there again in February 2014 – but overseas buyers will continue supporting the dollar because they have nowhere else to go.

Source: Director of Finance Online

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