The United States dollar (USD) is the world's predominant reserve currency and most frequently traded instrument on the forex. According to the Bank of International Settlements' (BIS) Triennial Survey 2016, the USD is involved in 87% of all forex transactions. In addition, the USD accounts for more than US$4.4 trillion in aggregate daily turnover. This figure equates to more than twice the session turnover of the euro (EUR) and almost nine times that of the British pound (GBP).
A premier global benchmark of monetary value, the United States dollar is symbolised by US$ and the ISO currency code USD. It is also held as a featured asset by prominent financial institutions such as the World Bank Group (WBG) and International Monetary Fund (IMF). As of 31 January 2019, approximately US$1.70 trillion dollars were in circulation. That amount is made up of:
- Federal Reserve notes: US$1.655 trillion
- U.S. notes: US$0.2 billion
- Out-of-issue monies: US$0.2 billion
- Coins: US$47.2 billion
The History Of The United States Dollar
The USD has a long and storied history, beginning shortly after the Revolutionary War started in 1775. As a way of financing the American war effort against Great Britain, the first Continental Congress issued paper money referred to as "Continentals." The Continentals were officially introduced in 1776 as US$2 notes and were considered to be "bills of credit" by the fledgeling U.S. government.
By 1780, the Continentals experienced a period of hyperinflation and were devalued to a fraction of their original worth. Upon the ratification of the U.S. Constitution in 1788, the Continentals were to be taken out of circulation. This effort culminated in 1790, when a total of US$153.5 million in Continentals were gathered and subsequently burned under governmental authority.
In 1861, war was once again the primary catalyst behind the creation of American paper money. Addressing a need to finance military operations in the Civil War, the U.S. Congress authorised the Department of Treasury to introduce "Demand Notes" to the public. Demand Notes were non-interest yielding bearer bonds that quickly earned the nickname "greenbacks" due to their colour.
Two years later (1863), Congress created a formal banking system and commissioned the Department of Treasury with the issuance of "National Banknotes." These new banknotes were distributed by chartered National Banks and were secured by the purchase of U.S. government bonds.
The early 20th century marked a volatile period in American history, highlighted by industrial expansion and World War I. In order to address the fresh collection of challenges facing the U.S. monetary system, the Federal Reserve Act of 1913 created a central banking authority known as the U.S. Federal Reserve (Fed). Signed into law by sitting president Woodrow Wilson, the act introduced a modernised form of currency called "Federal Reserve Notes" to the public. Federal Reserve Notes were to be issued by the regional branches of the Fed, reassuring depositors of the financial system's integrity and viability.
With the world plunging into conflict, the USD arose as a premier safe-haven financial asset. During the WWI and WWII eras, exploding debt loads stemming from war efforts plagued governments from every corner of the globe. Defaults on existing financial obligations frequently led to economic protectionism, inflation and stagnant global credit markets. In an attempt to bring clarity to international finance, the Bretton Woods Monetary System was adopted in July 1944.
The primary objectives of Bretton Woods was to develop a solid international monetary system that ensured exchange rate stability, prevented currency wars and facilitated economic growth. In an attempt to accomplish these goals, Bretton Woods called for the creation of regulatory bodies the IMF and World Bank. In addition, the agreement designated the USD to be the world's reserve currency. All nations that signed the Bretton Woods Accords became IMF members and agreed to peg their currencies within a 1% band of the USD's value. In turn, authorities in the United States pledged to peg the USD to gold at US$35 per ounce.
The Bretton Woods monetary system lasted until 1971, when President Richard Nixon ended the USD's convertibility to gold. Upon the gold standard being removed as a reference of value, the USD became a "free floating" currency, essentially deriving its value from market forces. Since 1971, the USD has existed as such a currency, free of all pegs or price fixing.
Economy Of The United States
The U.S. is considered an economic superpower, a technological leader and premier consumer marketplace. As of 2017, the U.S. ranked second globally in gross domestic product (GDP), relative to purchasing power parity (PPP). With US$19.49 trillion in annual GDP, the U.S. economy trails only China in terms of output and size.
The U.S. economy is technically considered to be service-oriented, with GDP being comprised of the agricultural (0.9%), industrial (19.1%) and services (80%) sectors. With the third-largest labor force in the world (160.4 million), the U.S. ranks second in the annual exportation of goods and services. The primary destinations for exports are Canada (18.3%), Mexico (15.7%), China (8.4%) and Japan (4.4%). Agricultural commodities, industrial supplies and consumer goods are among the leading products distributed abroad.
Perennially atop global standings as a consumer nation, the U.S. ranked number one in goods and service imports as of year-end 2017. The top partners for this period were China (21.6%), Mexico (13.4%), Canada (12.8%), Japan (5.8%) and Germany (5%). The leading goods imported were industrial supplies, crude oil, consumer goods and agricultural products.
Although two-way trade is a big part of the U.S. economy, deficits have ruled the prevailing dynamic since 1975. However, since that time the U.S. economy has prospered, 40 tripling in size. The USD has flourished as well, earning recognition as a leading global reserve currency.
The USD is regulated, issued and managed by the Fed. The Fed serves as the central banking authority in the U.S. According to the mission statement put forth by its Board of Governors, the Fed aspires to "foster the stability, integrity, and efficiency of the nation's monetary, financial, and payment systems so as to promote optimal macroeconomic performance."
In order to accomplish the stated mission, the Fed performs five essential functions:
- Craft Monetary Policy: Fed Policy is crafted with maximum employment, pricing stability and modest long-term interest rates in mind for the U.S. economy.
- Risk Management: Both domestic and international systemic risks are addressed on an ongoing basis to ensure the relative stability of the financial system.
- Safety: The Fed monitors individual financial institutions for safety and integrity.
- Payment And Settlement: Bureaus of the Fed provide services to the banking industry and U.S. government to promote efficiency in transactions based in USDs.
- Consumer Protection: The Fed conducts an ongoing supervision of the financial industry as a whole, including identifying developing consumer risks and the enforcement of existing regulations.
Within the Fed, the Federal Open Market Committee (FOMC) acts as the policy-making body. The FOMC meets once every six weeks and eight times per year in total. Public transparency is one of the Fed's guiding tenets, and in order to provide a clear picture of policy decisions and economic projections to the public, the minutes from each FOMC meeting are released.
Major United States Dollar Currency Pairs
On the forex, four pairings including the USD are considered to be "major pairs." These instruments are frequently traded and are made up of the USD/CHF, USD/JPY, GBP/USD and the EUR/USD. Of all the majors, the EUR/USD boasts the largest daily forex turnover, more than 24% of the aggregate handle.
In addition to the four majors, the world's leading commodity pairs are also based on the USD. The USD/CAD, AUD/USD and NZD/USD are popular instruments on the forex and are commonly considered to be majors. This is due to the global standing of the domestic currencies involved and daily traded volumes.
United States Dollar Bills And Coins
Over the course of its history, the USD has been issued as coinage, paper bills and modern polymer banknotes. Known the world over as the "greenback," the USD earned this moniker because of its green hue.
United States dollars, officially referred to as Federal Reserve Notes, are printed by the U.S. Bureau of Engraving and Printing (BEP). Founded in 1862, the BEP used facilities in Washington D.C. and Fort Worth, Texas to create billions of dollars each year for distribution.
Banknotes commonly come in $1, $2, $5, $10, $20, $50 and $100 dollar denominations. Each bill features counterfeit protections such as 3-D security ribbons, color-shifting emblems, embedded security threads and watermarks.
All coinage in the United States is manufactured by the U.S. Mint. Founded in 1792, the Mint is commissioned with the production of coins for circulation in trade and commerce. Coins are crafted in six U.S. regional facilities. The modern coins in circulation are the penny (1 cent), nickel (5 cents), dime (10 cents), quarter (25 cents), half dollar (50 cents) and one dollar (100 cents).
The United States Dollar Around The World
The USD serves as legal tender throughout all 50 states, affiliated territories and in more than two dozen independent municipalities. In total, more than 350 million people worldwide use the USD as their main form of currency. Below are the geographic locales where the Greenback is regularly accepted as money:
- Territories: Puerto Rico, Guam, British Virgin Islands, American Virgin Islands, American Samoa, the Northern Mariana Islands, Turks and Caicos
- Independent Countries: Ecuador, El Salvador, Marshall Islands, Micronesia, Palau, Timor-Leste, Zimbabwe
The greenback's status as the world's reserve currency makes it an attractive asset for countries in financial distress. In the cases of Ecuador (2000) or Zimbabwe (2009), monetary crises created a need for a stable currency. For other nations such as Hong Kong, Saudi Arabia and Venezuela, pegging the domestic currency to the USD affords companies as well as investors a higher degree of predictability.
Where Is The United States Dollar Today?
Following the global financial crisis of 2008-2012, the U.S. economy and USD entered a period of prolonged recovery. The near-zero interest rates implemented by the Fed during several rounds of quantitative easing from 2008-12 were eventually adjusted upward. From December 2016 to December 2018, the Fed raised interest rates by one-quarter point eight times, bringing the Federal Funds Rate to 2.25-2.50%.
That same two-year period of tightening was largely in response to a strong bull market in U.S. equities. Commonly dubbed the "Trump Rally" in reference to the 2016 Presidential election of Donald J. Trump, the S&P 500 gained more than 20% in the first 2.5 years of his presidency (2017- Q2 2019). In addition, U.S. GDP exceeded 3% for the first time in more than a decade, fueled by low unemployment and tax reform.
Subsequently, the USD did not post huge gains vs the majors from 2017- Q2 2019. During this period, the greenback traded near flat against the euro, GBP, Canadian dollar and Swiss franc. The primary reasons behind the lack of gains were uncertainty surrounding international trade relations, global economic growth and outspoken Fed policy.
Senior Market Specialist
Russell Shor (MSTA, CFTe, MFTA) is a Senior Market Specialist at FXCM. He joined the firm in October 2017 and has an Honours Degree in Economics from the University of South Africa and holds the coveted Certified Financial Technician and Master of Financial Technical Analysis qualifications from the International Federation…