The Outlook for the U.S. Dollar: Dominant, But No Longer Unquestioned

MFO Insights
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06/2025

After a decade of sustained strength, the U.S. dollar has retreated nearly 10% on a trade-weighted basis between its January 2025 peak and the end of May. This reversal reflects a shift in market sentiment, driven by the new administration’s unconventional and, at times, confrontational policy mix. Among the more notable measures: the imposition of the highest U.S. import tariffs in nearly a century and a fiscal program characterized by aggressive tax cuts—policies that further exacerbate an already unsustainable federal debt trajectory.

Compounding this were rhetorical attacks on the Federal Reserve by the President, which raised concerns about the central bank’s independence—an essential safeguard for price and currency stability. Together, these developments have formed a volatile cocktail for the greenback.

This naturally raises a pressing question: Is the dollar’s dominance in the global currency system under threat?

Resilience Amid Weakness

Our view is nuanced. Despite recent depreciation pressures, the dollar’s foundational strengths remain largely intact. Alternatives such as the euro and Chinese yuan—while backed by sizable economies—carry significant limitations that continue to impede their ability to rival the dollar in scale and trust.

  • The Euro, while supported by a comparably large economy and stable institutions, suffers from a fragmented bond market, the absence of fiscal union, and persistent political divergence among member states. The legacy of the 2011–2012 sovereign debt crisis still looms large over investor confidence.
  • The Chinese Yuan, for its part, remains constrained by capital controls, limited convertibility, shallow bond markets, and governance concerns. These factors collectively deter broader international adoption, despite China’s immense economic weight.

Accordingly, the latest IMF COFER data (Q4 2024) shows the dollar still accounts for 57.3% of global currency reserves, followed by the euro at 20.0%. All other currencies—including the yen, pound sterling, Canadian and Australian dollars, and the Chinese yuan—maintain low single-digit shares.  

Historical Foundations, Present Vulnerabilities

In King Dollar (2024), Paul Blustein offers a comprehensive account of how the dollar’s supremacy emerged and was institutionalized. He points to factors such as post-WWII U.S. economic dominance, the Bretton Woods system, deep and liquid financial markets, the rule of law, and the dollar’s centrality in global trade (particularly commodities like oil). These created powerful network effects—reinforcing the dollar’s value as both a medium of exchange and a store of value.

Many of these foundations remain in place, particularly the size and liquidity of U.S. capital markets. However, as Blustein presciently warns, this dominance could be jeopardized by “catastrophic policy missteps.” Some recent developments—fiscal overreach, protectionist trade measures, and increasing deviation from rules-based international norms—fall uncomfortably close to that category.

The Risks of Eroding Trust

Kenneth Rogoff, in his recent book Our Dollar, Your Problem, echoes and extends these concerns. He identifies a number of systemic threats to the dollar's status, including:

  • The rise of alternative reserve currencies and digital assets;
  • Geopolitical realignment and sanctions fatigue;
  • Domestic risks—especially fiscal imprudence and political polarization.

Rogoff forecasts a potential transition to a more multipolar currency regime. While he doesn’t foresee an imminent dethronement of the dollar, he warns that declining dominance could increase global financial instability as the monetary system recalibrates.

Investment Implications: Navigating Headwinds

From an investment perspective, we expect that the dollar’s dominant role will persist, but that its relative strength will likely continue to erode over the near to medium term. The dollar remains expensive in real and trade-weighted terms, and trust in U.S. policymaking has been strained.

In practical terms, this could result in:

  • A weaker dollar trend, which could contribute—ironically—to reducing the U.S. trade deficit by shrinking the capital account surplus that finances it;
  • Continued portfolio rebalancing away from dollar-denominated assets;
  • Support for gold, given its historical inverse correlation with the U.S. dollar;
  • A gradual decline in foreign appetite for U.S. Treasuries.

Such a dynamic aligns with Rogoff’s observation that the “exorbitant privilege” of dollar dominance is inherently self-reinforcing, but not immune to policy-driven erosion.

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Conclusion: Still Dominant, But Not Invincible
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‍The U.S. dollar remains the backbone of the international financial system, but its primacy should not be taken for granted. Historical precedence, market depth, and institutional trust continue to underpin its role—but these advantages rest on prudent and stable governance.

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Nadja Bleuler

Chief Economist, Partner
Über MFO
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