Israel the latest country to dump dollars

USD as Global Reserve Currency

I read this paper, published a few weeks ago by the IMF, which examines how the dollar’s dominance as the world’s reserve currency is dwindling.

Sure, it’s still the King, but the data shows that Central Banks are diversifying their holdings. The dollar occupied 71% of Central Bank balance sheets in 1999, but this amount is now down to 59%. And while the IMF paper asserts that no one currency is replacing it, instead a basket of non-traditional currencies, it is still threatening to the dollar. This is especially true in light of recent developments.  

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Most notable, of course, are the sanctions imposed amid the Russian war. Other governments will have taken notice of the economic vulnerability that this could cause – especially China, who incidentally are the largest holder of US debt. Secondly, with greater liquidity now in the cross-exchange market, the motive to hold USD as an interim asset is also less than in previous times. Finally, the desire for greater returns and movement out along the risk curve has pushed Central Bank managers to lessen USD holdings.

Israel

Israel are the latest country to join this trend. Their foreign currency reserves have traditionally been made up of dollars, euros and British pounds, but that has now changed. They have announced the addition of four new currencies – Chinese yuan, Japanese yen, Australian dollar and Canadian dollar.

The yen will now account for 5% of Israel’s holdings, while the Canadian and Australian dollar will occupy 3.5% each. The yuan will account for 2%. To note, the pound’s previous allocation was only 2.5%, and it has doubled to 5% as part of the move.

On the flipside, the euro holdings will fall to 20%, a drop from the previous 30% allocation, while the US dollar reserves will fall to 61%, down from 66.5% previously.  

The Deputy Governor declared the move a change in their “whole investment guidelines and philosophy”, noting that “we need to look at the need to earn a return on the reserves that will cover the cost of the liability”. In other words, they are looking to diversify their holdings and lengthen their investment horizon.

This is the first time they have ever invested in the Chinese yuan, and it also marks their reserve pile creeping north of $200 billion for the first time.

Trend

The trend is concerning for the dominance of the dollar, giving further weight to the theory that the world is undergoing a “de-dollarisation” process. Of note especially is the rise of the Chinese yuan, which the IMF paper noted had taken a 25% share of the funds that have flown into non-traditional currencies over the last two decades.

While the yuan still suffers from the fact is not absolutely free flowing – it is very much kept on a tight reign by Chinese authorities, and has been criticised in the past for devaluation policies – it still accounts for 2.8% of global foreign reserves. For contrast, the British pound is at 5%. The main drive has come from Latin American countries, who have pumped $30 billion into the yuan over the last five years.

If the yuan can continue to capitalise on the narrative that running a USD-denominated economy exposes a country to a very real risk of sanctions, and corresponding economic turbulence, there is reason to believe that it can continue to grow on the international stage. Israel are just the latest example.