Are sanctions eroding the dollar’s dominance? The empirical evidence
Chupilkin et al. in this paper find that the trade sanctions on Russia have encouraged a shift away from the US dollar, eroding its dominance. This illustrates how sanctions may lead to greater use of alternatives like the yuan and fragmentation of global payment systems. More specifically they found that:
- The share of Russia’s imports invoiced in yuan (CNY) increased from 3% in 2021 to 20% by the end of 2022. This was mainly at the expense of the US dollar and euro reflecting rising costs of clearing payments under sanctions.
- The use of CNY increased most notably for trade with China, rising from 23% to 63% of imports. But CNY also started being used more as a “vehicle currency” for trade with third countries.
- Trading partners with currency swap lines with China’s central bank saw greater increases in CNY use, by an extra 4 percentage points on average. This effect was only found in countries that did not impose sanctions on Russia.
Exorbitant Privilege and Economic Sanctions
Authors: Maxim Chupilkin, Beata Javorcik, Aleksandra Peeva, Alexander Plekhanov
From: European Bank for Reconstruction and Development, Humboldt-University of Berlin
Are sanctions eroding the dollar’s dominance? The theory
In this paper, Bianchi and Sosa-Padilla investigate how international financial sanctions can impact the status of the US dollar as the dominant global reserve currency. The authors develop a model with two key ingredients: 1) dollar assets provide a special liquidity value, and 2) there is a cost to issuing safe dollar assets. This generates an “exorbitant privilege” for the US.
- They show that in a frictionless environment, sanctions would not affect the dollar exchange rate. However, in their full model, the anticipation of sanctions reduces foreign demand for dollar reserves, leading to dollar depreciation.
- Intuitively, sanctions offset the liquidity benefits of holding dollars, making other reserve currencies more attractive. As foreign demand for dollars falls, this puts downward pressure on the dollar exchange rate.
- The authors argue a weaker dollar resulting from sanctions reduces the “exorbitant privilege” for the US, harming US investor welfare. However, it could improve welfare if the US has large dollar liabilities, as it reduces the real burden of repaying debts.
International Sanctions and Dollar Dominance
Authors: Javier Bianchi, César Sosa-Padilla
From: Federal Reserve Bank of Minneapolis, University of Notre Dame
