Dollar Dominance Under Threat as US and Japan Intervene in Currency Market

Last week's attempt to boost the sagging yen was a joint effort between the US and Japan, but this intervention revealed a significant weakness in the dollar's global status.

According to University of California at Berkeley economist Barry Eichengreen, the way both countries intervened in the currency market reflected their concern about rising long-term yields. The New York Fed sold euros instead of dollar-denominated assets to buy yen, allowing the US to avoid absorbing more Treasury securities. This was a strategic move as the federal government must finance a $2 trillion budget deficit this fiscal year.

The competition for investor demand has put upward pressure on yields, adding to interest costs and the federal deficit. On the Japanese side of the intervention, Tokyo used an obscure Federal Reserve tool called the Foreign and International Monetary Authorities Repo Facility to borrow dollars against its Treasury stockpile, obtaining a limited form of liquidity.

Eichengreen believes that both moves are indicative of the dollar's status as a reserve currency no longer being what it used to be. Central banks are accustomed to holding foreign reserves in dollars because markets in US Treasury securities are liquid and can be freely bought and sold. However, this is not the case anymore.

Kieran Tompkins, senior climate and commodities economist at Capital Economics, echoed Eichengreen's sentiment, stating that the US is raising the relative appeal of holding assets like gold by pressuring Japan to not sell dollar assets.