Death of the Dollar
The dollar is now coughing and choking like an old man with one foot in his grave. Gold is rallying because it is measured in declining dollar values and because it is the safe haven of choice now that central banks are ditching the dollar. CBs are ditching the dollar because of tariffs. Less trade with the US means less need for dollars as a global currency, so a swift current of dedollarization has begun.
Foreign Central Banks Are Shrinking US Asset Exposure
As debate rages around ‘de-dollarisation’ and the world’s appetite for dollar-denominated assets, one major cohort of overseas investors appears to be quietly backing away from US securities: central banks.
Tariff troubles
Such a massive sweep of tariffs was nearly a no-brainer for gradual death of the dollar, so it has surprised me that I’ve not seen anyone else making connecting tariffs with dollar troubles in their predictions. The dollar’s vital signs had already been on a long downtrend for many reasons I’ll go into below, but who needs dollars for global trade when there is now less and less global trade that has to involve US dollars?
US Treasuries held at the New York Fed on behalf of foreign central banks fell to US$2.88 trillion (RM12.3 trillion). That’s the lowest since January, and the US$17.1 billion decline was also the biggest fall since January.
This, of course, indicates trouble for funding the United States’ ballooning debt.
Including mortgage-backed bonds, agency debt and other securities, the total value of foreign central banks’ US custody holdings at the New York Fed last week dropped to US$3.22 trillion, the lowest since 2017.
All vehicles denominated in dollars suffer when central banks don’t want as many dollars because these are the packages by which they readily move dollars between nations when reconciling foreign exchange.
If these moves are representative of broader trends, then FX reserve managers are reducing their exposure to US bonds, as a share of their overall holdings and in nominal terms too….
Meghan Swiber, director of US rates strategy at Bank of America, says the fall in custody holdings is a warning sign, especially as it has been accompanied by a modest decline in foreigners’ usage of the Fed’s overnight reverse repo (RRP) facility.
When Treasuries mature, foreign central banks will often park the cash at the RRP. But they haven’t been doing that lately, Swiber says, meaning both their Treasury holdings and overnight cash balances at the Fed are falling.
“We worry about foreign demand going forward,” Swiber wrote on Monday, also pointing out that it’s “unusual” for reserve managers to reduce their US Treasury holdings when the dollar is weakening. “This flow likely reflects official sector diversification away from dollar holdings.”
The US$28.5 trillion Treasury market is deep and liquid, and central banks remain significant participants in it. They are cautious and careful by nature, meaning any changes to their holdings will be gradual.
But the weekly custody data suggest some central banks may already be getting that ball rolling.
Dow down on the dollar
Another story today by the Dow Jones banks its bets against the dollar based on gold action:
Gold Rally Points to Eroding Faith in Central Banks Worldwide
It turns out the U.S. isn’t the only country where massive debts and populist politics threaten the value of “fiat” currencies like the dollar-i.e., those backed by nothing tangible--and the central banks that issue them.
Yes, but it’s one of them, and Big Beautiful Bill is the engineer on that dollar freight train to the graveyard.
Trifecta of doom
Gold’s rally has come in several stages. The first began after Western nations froze Russia’s foreign currency reserves in the wake of its full-scale invasion of Ukraine in 2022. Central banks and foreign governments, in search of something that adversaries couldn’t seize, began piling into gold.
The second came this past April with President Trump’s trade war, which undermined faith in the U.S. as a stabilizer of the global economic system and the dollar’s pre-eminent place in that system.
The third began in late August, when the Federal Reserve signaled it would cut rates to counteract weak labor markets, despite inflation running above its 2% target.
All of those things that are good for gold are bad for the buck, so this has been a trifecta of forces against the dollar. While there are still trillions in play in international markets, so the fall has a long way to go for the dollar to get down to the levels of any other national currency used for international trade, there are other factors clawing at the dollar, too, including particularly the debt doom loop. I’d put Big Beautiful Bill and the years of debt that are spinning out of control under Big Fat Bill higher than the Fed’s interest cuts as strikes against the dollar.
Coming up soon, we also have Trump’s push in favor of crypto currencies, particularly his own tied to a debit card, as increasing competition for the buck. I think he intends to Trump the dollar in order to make his own crypto the national currency, and that is why he has also ordered the Treasury to start holding crypto as an asset.
If we experience a huge crypto crash when all this digital experimentation suffers a breakdown, someone should be asking what happens to the dollar if the US Treasury is heavily invested in crypto and stablecoins are backed by dollars, and AI is running many of the operations, including mining of crypto. I think that is a step above my math pay grade for now; but my gut tells me that such a crash could be bad for the dollar, should it happen, too. The more dollars are directly tied to stablecoins, the more the fate of the two seems wed to me.
Add to all of that the constant weaponization of the dollar, and the poor thing finally has more strikes against it than it will be able to withstand.
Gold’s rally is starting to look like a speculative frenzy. Wall Street has dubbed it the “debasement trade.” Gold generates no income, so whether it is correctly valued at $4,000 for a troy ounce is impossible to assess. Traditionally, its main appeal is as insurance—against geopolitical or economic instability, or loss of trust in other assets such as the dollar.
I think many goldbugs would agree that their main reason—or certainly a big reason—for holding gold is distrust in the dollar. So, add to the dollar’s current list of growing detriments, years of Fed mismanagement and the likelihood of a gross Fed misstep right now with its interest cuts taking the US into far more rapid dollar debasement. I don’t know if it will go as bad as hyperinflation, but tariffs will certainly shove it to high inflation because they force up prices beyond any influence of the Fed. Add the Fed’s lower interest rates at the same time, and you're adding some fuel to the conflagration. So, hyperinflation is not completely out of the question anymore.
Ken Griffin, chief executive of fund manager Citadel, citing the dollar’s steep drop this year, said earlier this week: “Sovereigns, central banks, individual investors around the world now say, ‘You know what? I now see gold as a safe harbor asset in a way that the dollar used to be viewed.’”
Exactly where I predicted the dollar would start heading this year for the first time in all the years that I’ve been writing about economics.
In a new report, Morgan Stanley noted that across developed markets, “In the last year, on average, nominal growth has slowed, cost of debt has risen, and deficits deteriorated—a triple whammy for debt sustainability.” It predicts that by 2030, the average cost of debt service will equal growth rates. Preventing an explosive rise in debt would require a sizable budget surplus excluding interest—i.e., steep spending cuts or tax increases. That is proving politically unpalatable.
We all know how the government is doing on that! It’s closed right now, and isn’t even coming anywhere close to balancing the budget, much less creating a surplus that can be applied as happened in the Clinton era toward starting to reduce the debt to manageable size. Now we’re in an era where all major credit agencies have downgraded US debt, and the government is rapidly increasing the rate at which we dive into deeper debt. Those cascading credit ratings are also likely contributors on top of all the issues above to the dollar’s demise.
Trump thinks there is an easier way to lower deficits: Get the Fed to lower rates and thereby make servicing the debt cheaper. When central banks shift their priority from inflation to helping the Treasury, it is called fiscal dominance, and it usually leads to inflation.
Hyperinflation, Zimbabwe style or Argentina style.
Seth Carpenter, chief global economist at Morgan Stanley, said while no one can be sure what the Fed will look like after current chair Jerome Powell steps down, “Trump gets to make some picks, and he’s been clear what he wants.” The Fed, he said, might be shifting toward generally easier policy over time, which implies a lower dollar, higher expected inflation, and higher gold than otherwise.
There is one more excellent article in the news about dollar death from a very credible source below, which gives a sense of the timeline for the decline that is coming. I’ll leave you to go over that one yourself, if interested, as I am out of time on this especially busy week.