My post last week suggested that the euro may overtake the US dollar as premier international currency. One might ask why this would matter. Some of the reasons it matters are economic: we would lose the “exorbitant privilege” of being able to finance our international deficits easily. But there are also possible geopolitical implications.
In the past, US deficits have been manageable because our allies have been willing to pay a financial price to support American global leadership; they correctly have seen it to be in their interests. In the 1960s, Germany was willing to offset the expenses of stationing U.S. troops on bases there so as to save us from a balance of payments deficit. The U.S. military has long been charged less to station troops in high-rent Japan than if they had been based at home. Repeatedly the Bank of Japan, among other central banks, has been willing to buy dollars to prevent the U.S. currency from depreciating (late 1960s, early 1970s, late 1980s). In 1991, Saudi Arabia, Kuwait, and a number of other countries were willing to pay for the financial cost of the war against Iraq, thus briefly wiping out the U.S. current account deficit.
Unfortunately, since 2001, during the same period that the US twin deficits have re-emerged, we have also lost popular sympathy and political support in much of the rest of the world. Now the hegemon has lost its claim to legitimacy in the eyes of many. In sharp contrast to international attitudes at the dawn of the century, opinion surveys report that the U.S. is now viewed unfavorably in most countries. Next time the US asks other central banks to bail out the dollar, will they be as willing to do so as Europe was in the 1960s, or as Japan was in the late 1980s after the Louvre Agreement? I fear not.
The decline in the status of the pound during the course of the first half of the 20th century was part of a larger pattern whereby the United Kingdom lost its economic pre-eminence, colonies, military power, and other trappings of international hegemony. As some wonder whether the United States might now have embarked on a path of “imperial over-reach,” following the British Empire down a road of widening budget deficits and overly ambitious military adventures in the Muslim world, the fate of the pound is perhaps a useful caution. The Suez crisis of 1956 is frequently recalled as the occasion on which Britain was forced under US pressure to abandon its remaining imperial designs. But the important role played by a simultaneous run on the pound, and President Eisenhower’s decision not to help the beleaguered currency through IMF support unless the British withdrew its troops from Egypt, should also be remembered.