Why International Transactions are Made in US Dollars?

 

International transactions have been a part of the global economy for centuries. The ability to buy and sell goods and services across borders has enabled economies to grow and prosper. However, a key question arises – why are international transactions mostly conducted in US dollars? In this blog post, we explore the reasons behind this phenomenon.

 

The Role of the US Dollar in the Global Economy

The US dollar has been the dominant global currency since the end of World War II. The Bretton Woods Agreement of 1944 established the US dollar as the world's reserve currency. Under this agreement, the US dollar was tied to gold at a fixed exchange rate, and other countries' currencies were pegged to the US dollar. This meant that the US dollar was the most stable currency, and it became the preferred currency for international transactions.

 

Dollar Bank Note

 

The Network Effect of the US Dollar

The US dollar's dominance in the global economy is due to the network effect. The network effect is the phenomenon whereby a product or service becomes more valuable as more people use it. In the case of the US dollar, its use in international transactions has created a network effect. As more countries use the US dollar, it becomes more valuable, and more countries want to use it.

 

The Liquidity of the US Dollar

Another reason for the US dollar's dominance in international transactions is its liquidity. Liquidity refers to the ease with which an asset can be converted into cash without affecting its price. The US dollar is the most liquid currency in the world. It is widely traded in foreign exchange markets and is accepted by almost every country in the world. This makes it easier for countries to conduct international transactions in US dollars.

Dollar Rate World Economy illustration

 

The Stability of the US Dollar

The US dollar is also considered a stable currency. It is backed by the US government, which has a stable political and economic environment. This stability makes the US dollar an attractive currency for investors and central banks. Central banks hold US dollars as part of their foreign exchange reserves, which provides stability to their own currencies.

 

The Influence of the US Economy

The US economy is the largest economy in the world, and the US dollar is closely tied to it. The strength of the US economy has a direct impact on the value of the US dollar. This means that when the US economy is strong, the US dollar is strong. This makes the US dollar an attractive currency for international transactions.

 

Conclusion:

In conclusion, the dominance of the US dollar in international transactions is due to a combination of factors. The US dollar's role as the world's reserve currency, the network effect, liquidity, stability, and the influence of the US economy have all contributed to its dominance. While other currencies such as the euro and the yen are gaining ground, the US dollar is likely to remain the dominant global currency for the foreseeable future.