When the pandemic hit the developed world, financial markets began to tank. So abrupt was the decline in the stock market that it triggered circuit breakers days in a row.
In response to the financial markets’ instability, the Fed opened USD swap lines with other major central banks in the world. To this day, the lines remain open, albeit there is no need for USD as the liquidity issue was addressed already.
The Fed’s reaction generated a massive USD selling across financial markets. U.S. equities reached new all-time highs, the EURUSD jumped to 1.20 from 1.07, gold broke above $2,000, and so on. After a short while, voices began calling for higher inflation, lower USD for longer, and the fact that it is losing its dominant role in financial markets.
However, reality shows just the opposite. Not only that the USD is not losing its role, but it becomes more dominant.
USD – The Favorite Currency to Issue Debt
One of the metrics used to measure the role of a currency in the international financial system comes from the fixed-income market. More precisely, when international debt is issued, countries can opt to do so in their local currency or in a different one.
The risk is that if the debt is issued in the local currency, the government and the central bank may instrument a currency debasement. Therefore, to have bids for the offering, countries often use an international currency to issue debt. In doing so, they make sure that there are enough investors for the bonds the country wants to sell.
COVID-19 generated a huge wave of new debt being issued. In 2020, issuers outside of the United States sold a record amount of USD denominated bonds. More precisely, so far in 2020, the amount surpassed every single year in the last decade.
Therefore, we can easily argue that not only that the dollar did not lose its status, but its role in the international financial markets strengthened during the crisis. If we look back to other crises, that is exactly what happened in the past. For example, during the 2008-2009 Great Financial Crisis, the USD rose sharply on strong demand from the international community.
The debts issued this year need to be paid back in the years to come. Guess in what currency?