The dollar’s dominance is often attributed to its status as the key international reserve asset. This shorthand lends the impression that money is a commodity (a thing), when in fact for the most part money is credit (a social relation). While it is true that trillions of dollars are held as safe assets by investors and governments around the world, the bulk of these dollars in countries’ foreign reserves are credit contracts — predominantly US Treasuries.

While dollar dominance is often attributed to its reserve currency role, the dollar’s entrenchment in the financial system arises from its dominance in international credit creation. It is the unit of account undergirding the world’s deepest and most dispersed credit system, which includes, but is hardly limited to, Treasuries and bank loans. The power to create dollar-denominated credit isn’t restricted to the United States’ monetary authorities; foreign banks issue more dollar loans than US banks.

As the dollar system is a globe-spanning credit regime, its crises have correspondingly global consequences. When excess credit creation results in financial crisis, the United States’ central bank, the Federal Reserve, steps in to stabilize dollar markets. Yet it does so in ad hoc fashion. Crisis interventions reveal the inner workings of the international monetary hierarchy. While rich countries with access to the Fed’s backstop enjoy ease of access to dollar liquidity, low- and middle-income countries, which do not have easy access to the Fed’s dollar swap lines and other liquidity facilities must face discipline and punishment by international bond markets.

The dollar is perhaps the preeminent source of US hegemony. Like dark matter in the physical universe, dollar balance sheets are largely invisible to the public eye. They exist mainly in private hands. The dollar system skews extraterritorial: it spans the gamut from the centrality of US debt instruments in financial markets to the sensitivity of the global economy to movements in the dollar’s exchange rate, which systemically impacts global trade and financial conditions.

While Treasuries and the bulk of US bank loans have been backstopped by the Federal Reserve, large parts of the system aren’t governed by US monetary authorities and policymakers. The bulk of credit contracts in the global dollar system aren’t protected by the Fed. These shadowy parts of the dollar system exist offshore and off-balance sheet, in short-term funding instruments such as foreign exchange (FX) swaps. Derivative contracts in which one currency is exchanged against another, FX swaps are a predominant source of dollar borrowing even if they are not, technically speaking, credit instruments.

With trades averaging $5 trillion per day, the foreign exchange swaps market — in which one currency is exchanged for another by means of a derivative contract — is by far the largest market in dollars globally. Lightly regulated, large in transactional amounts, and informal in governance — which occurs by way of a voluntary global FX code — the market in FX swaps is at times prone to a “liquidity mirage” (i.e., true liquidity may be overstated). These instruments are the “known unknowns” of the dollar system. The potential vulnerabilities in this gargantuan market remain obfuscated.

It should be clear that the markets that comprise the dollar system aren’t just prone to volatility; they are dysfunctional. Rather than raising capital for factories or infrastructure, dollar funding markets are largely in the business of refinancing debt contracts. (Three out of every four transactions in financial markets involve refinancing of some sort.) Given their anarchic tendencies, some central banking experts have called the dollar-centered international financial regime a nonsystem.

For several decades, the United States has run trade deficits — the largest component of its current account balance — by importing more goods than its exports. The US current account deficit, and corollary financial account surplus, is the largest in the world. The United States has principally shaped global imbalances — i.e., the large trade and financial imbalances that are a defining characteristic of the world economy over the last quarter of a century.

As the issuer of world money, the United States can finance its balance of payments deficits more easily than other countries. Its ability to borrow via the treasury market — the deepest pool of government debt in the global liquidity system, a third of which is held overseas — depends less on sovereigns such as Japan or China and more on the calculus of private investors (banks, insurance companies, pension funds, mutual funds, and hedge funds). In 2024, higher interest rates (and a stronger dollar) drew 41 percent of global financial inflows to the United States. This uphill flow of capital — more than two trillion — exceeded the trade deficit. Foreign purchases of US debt securities alone (more than half of which were in US Treasuries) amounted to about a trillion dollars.

Trade imbalances have been explained in binary terms as either benign or downright bad. The twentieth-century American economist Charles P. Kindleberger held a benign view of the US external deficit: the United States runs a current account deficit, he argued, so that it could throw dollars into the world economy. For Kindleberger, the role of the United States as the world’s banker was akin to peacekeeping. His subtler point was that US deficits should be understood as deficits only in accounting terms. However, Kindleberger and those (like the economists Michael Pettis and Mathew Klein) who subscribe to the finance-driven approach have somewhat simplified the story. The fact is that US trade deficits and financial surpluses derive from the centrality of the United States in both financial and trade networks.

American exceptionalism is usually understood in purely financial terms, rooted in the power of the dollar, yet it also derives from the fact that US corporations capture the lion’s share of profits across a host of far-flung supply chains. Reduced costs from economies of scale and cheaper labor involved in overseas production redound to US firms and consumers. The ensuing US trade deficit is correlated with rising corporate profits.

On April 2, 2025, Trump’s “Liberation Day” pronouncements of rebalancing trade through new reciprocal tariffs on most countries — based on spurious calculations of how much another country’s bilateral trade surplus had hurt the United States — sharply drove up yields on benchmark ten-year US Treasuries. (Bond prices are inversely correlated with interest rates, which means that higher yields indicate declining demand for Treasuries.) The rate on the thirty-year Treasury bond briefly topped 5 percentage points. Bloomberg reporters euphemistically described the swooning equity markets as “rebalancing.” The dollar slid in global currency markets. Having declared a trade war on allies and adversaries alike, Trump has tarnished the “safe haven” appeal of the dollar and the United States. However, a 10 percent decline in the previously expensive dollar has been the one silver lining of the Liberation Day storm.

Trump’s decisions induce whiplash. While he has expressed preference for a lower dollar for, among other things, “rebalancing” trade, what the next four years of on-and-off presidential decrees will do to the dollar’s status will ultimately be decided by how financial markets — whose size vastly outweighs global trade — digest forthcoming shocks. While market volatility hurts households and Main Street, trading volatility has proven hugely beneficial for the big global banks such as JPMorgan Chase and Goldman Sachs, whose trading revenues have been at a decade high.

April’s tremors in the Treasury market, adjacent Treasury repo market, and far bigger interest-rate swap derivatives market — evidenced by widening interest-rate swap spreads — did not threaten US credit markets. However, Trump’s blustering that the United States should annex Canada and Greenland have prompted Canadian and Danish pension funds to announce that they will invest less in US private equity.

While the Fed can douse the flames of a global financial meltdown with dollar liquidity, what US policymakers cannot do is make the stuff that US households and industry take for granted — all manner of electronics, everyday goods, and essential subcomponents — which is why just a few days after announcing his tariffs, Trump granted a temporary carve-out for computers and smartphones from China.

Crashing the global economy is a surefire way to reduce US imbalances. The last time that the US trade deficit sharply declined was during the Great Recession. As the global financial crisis deepened, by October 2009, unemployed workers in the United States topped 15.7 million. Despite the turmoil, the dollar remained a safe haven asset — in part because of the institutional support of the Federal Reserve, which pumped liquidity into offshore dollar markets by way of dollar swap lines. Also at play, albeit to a lesser extent, was adept financial diplomacy. Hank Paulson, the US Treasury secretary at the time, convinced China not to sell its holdings of US debt despite significant losses on China’s portfolio, heavy on agency mortgage-backed securities, from the US housing market crash. Since then, portfolio losses on its US debt holdings as well as domestic political pressures have led China to reduce the share of its official foreign exchange reserves denominated in dollars.

While trade wars disrupt supply chains, financial disruption can be orders of magnitude larger. Law is interwoven into the fabric of the dollar system. Swap lines are legal instruments, as are sanctions. The former are as political as the latter. And there has been an increased use of both.

One ramification of financial weaponization is to reduce faith in the rule of law — which presumes equal treatment of all parties in legal contracts — underpinning the global financial system. The US Supreme Court could overturn a 1935 precedent that shields federal officials from being fired because of a turn in the political wind. As of now, the Supreme Court has decided not to rule against Trump’s firing of federal officials. If Trump dismisses the current Federal Reserve chair Jerome Powell and installs a sycophant as chair, the credibility of the rule of law undergirding the global dollar system will once again be questioned. Such actions may also raise questions about the Fed’s commitment to serving as the international lender of last resort in financial crises.

However, Trump is not the first American official to deliver a sizable shock to the international system; Nixon’s crime of 1971 unilaterally ended the convertibility of dollars into gold. Less than a decade later, Paul Volcker’s monetary tightening led to a decade-long slump in the global economy, although in due course the dollar system expanded.

The increased use of sanctions in the world economy has scrambled the free flow of goods and services. These economic weapons and others, such as embargoes or asset confiscations, aren’t new. While financial sanctions have come to occupy primacy in twenty-first century US foreign policy, weaponization — the manipulation of infrastructures by powerful states to advance their own interests — has long been a characteristic of world monetary systems. Even if they are successful at projecting power as disciplinary mechanisms, embargoes and blockades have a mixed record of success. Recalibrating economic coercion (e.g., financial sanctions, trade embargoes, and export controls) with “care” (e.g., swap lines, debt haircuts, and new financing, especially in the Global South) will be key to stabilizing dollar hegemony.

US Presidents have often deployed emergency powers to conduct coercive foreign economic policy. Trump’s use of the International Emergency Economic Powers Act has outpaced that of his predecessors. From February 2025 onward, the Trump administration ratcheted up tariffs on China from 10 to 125 percent, ultimately lowering them pending trade negotiations, although imports from China still face an additional tariff of 20 percent on top of the baseline general tariff of 10 percent, as of June’s end. Despite all the talk, however, the development of alternatives to dollar-dominated financial infrastructures in Europe and Asia are still in their early stages. A small but significant appetite for gold on the part of certain (well-stocked) central banks appears to be an inflation or geopolitical hedge rather than a threat to the dollar’s dominance.

Could large Treasury-holders such as Saudi Arabia or China, at least in theory, leverage their holdings in geopolitical gamesmanship? Saudi Arabia hews closely to US interests. It has not yet accepted an invitation to join BRICS.

China has expressed a lack of interest in shaping global geopolitics, which is why the symbolism of China’s Ministry of Finance issuing $2 billion in dollar-denominated bonds in Riyadh turned a lot of heads last November. The yields on these two different bond issuances were just one and three basis points above US Treasuries for the three- and five-year maturities.

Such an extraordinarily low cost of sovereign borrowing was unprecedented in the offshore dollar bond market. China, which has a stellar credit rating, is an active player in the global dollar system, both as creditor and increasingly as borrower. It has recently shown that it, too, can play hardball. It retaliated against Trump’s draconian tariff regime by imposing tariffs on the United States, temporarily pausing its imports of US liquified natural gas, and suspending exports of critical minerals and rare earth magnets to the US — materials critical to American auto, semiconductor, and aerospace manufacturing. So perhaps there is something in the ongoing talk of China’s stealth de-dollarization.

However, April’s sales of US government bonds were driven more by ex post portfolio hedging on the part of Asian investors than by governments dumping Treasuries. If trade wars transmute into financial warfare in the shape of a future Mar-a-Lago accord, where countries under the US security umbrella swap their holdings of short-term Treasuries for century-long bonds or face US retaliation, de-dollarization and delinking from the United States will be debated. However, it appears doubtful whether Europeans, the largest holders of US Treasuries, will pull out of the dollar system. The hegemonic transition from the pound sterling to the dollar was gradual and turbulent; and, in terms of the monetary-military nexus, the United States is far stronger now than either the UK of the mid-twentieth century or the Europe of today.