American currency. Photo Credit: Alena Vikhareva/Getty Images.
Since World War II, the U.S. has been the most influential actor in the global financial system. It has shaped the world’s economic institutions and norms to suit its own preferences, securing disproportionate power and influence over the global economy. This exclusive position has granted the U.S. an unparalleled ability to use financial tools to coerce foreign actors and to promote national interests. However, this financial hegemony will not last forever: Washington’s overuse of economic warfare, emerging technology, and alternative institutions will all erode US financial dominance over time. To mitigate this, American policymakers should rethink their sanctions strategy, work to uphold existing institutions, and reaffirm existing partnerships.
The U.S. reaps immense benefits from its dominance in global finance. As the world’s largest national economy[i] and as one of the international system’s most influential architects, the U.S. enjoys immense benefits from its control of the dollar—the world’s principal reserve currency and the backbone of global trade. Moreover, the country benefits from its robust banking system, which administers and facilitates global financial transactions, providing the U.S. with wide regulatory powers over actors who participate in the system. Aside from influence over global norms and over institutions such as the World Bank, the International Monetary Fund, and SWIFT—an inter-bank communication network that enables institutions to securely fulfill financial transactions—US financial dominance also secures economic gains. Washington, unlike any other actor, holds the so-called “exorbitant privilege,” which allows the U.S. to borrow cheaply and to run massive deficits at minimal cost.[ii] Indeed, the U.S. continues to run up its $1 trillion deficit precisely because it can borrow on favorable terms and in its own currency.[iii]
Understanding that access to the U.S. financial system and to the dollar is crucial for foreign actors, Washington has escalated the use of financial warfare in pursuit of its foreign policy goals in the 21st century. Consider sanctions: although American policymakers have used them extensively in the past—for example against Cuba in the 1960s and against Iraq in the 1990s— their use has soared dramatically since the turn of the century and especially under the Trump administration.[iv] In 2018, the U.S. added nearly 1,500 people, companies, and entities to the sanctions list. This quantity is almost double the total number added in 2017, the second-highest year on record.[v] Through late October of 2019, more than 600 additional sanctions designations have been added.[vi] Meanwhile, the sanctions applied by the U.S. have escalated both in magnitude and in scope, targeting American adversaries and allies alike. Russia and Iran have been hit with persistent and escalatory country-based economic sanctions programs. Washington has used financial pressure against Beijing as well, targeting it with financial and secondary sanctions aimed at Chinese businesses and entities.[vii] Even one of the most important US allies, the E.U., has been targeted.[viii] Moreover, the U.S. has tightened enforcement surrounding sanctions and gotten better at imposing and overseeing financial sanctions against specific persons and organizations.[ix]
There is a significant cost to this extensive use of financial warfare. As foreign actors increasingly grapple with both comprehensive and targeted sanctions, their frustration over their dependence on the American financial system grows. What once seemed to be a system of mutual benefits for international players has now transformed into an environment of vulnerability and insecurity where the dominant power weaponizes the prime position it holds. Once fear of this vulnerability outweighs the perceived benefits of participating in the U.S.-led system, actors will inevitably seek alternatives means of conducting business and fulfilling financial transactions.[x] The current system is therefore not set in stone; it will be strong only if the actors who participate in it believe that it is the most attractive option. If this belief fades, the system will begin to crumble. This could eventually lead to the collapse of US financial hegemony, giving the U.S. less control over financial transactions and diminishing its ability to impose US-friendly policies and coerce actors through sanctions.
Frustration with US financial dominance has already precipitated multiple attempts to circumvent the existing system. Both China and Russia have taken steps to escape their dependence on SWIFT, over which the U.S. holds considerable leverage and oversight.[xi] Moscow has established and promoted a national payment service known as Mir, which has recently grown internationally, as Turkey this year became the first non-Russian speaking country to begin accepting Mir payments.[xii] Elsewhere, Beijing has not only introduced the Cross-Border Interbank Payment System, which is a renminbi-based SWIFT equivalent, but has also been active in using its currency through swap agreements with partners, bypassing the dollar completely.[xiii]
Moreover, the E.U., in response to the American unilateral exit from the Iran nuclear deal, has introduced the Instrument in Support of Trade Exchanges, known as INSTEX, as an alternative to SWIFT. This barter system between Iran and the E.U. is dollar-free and circumvents US sanctions completely, as it does not send any money internationally.[xiv] While the system has been unsuccessful, failing to handle large volumes of trade and lacking diplomatic support since its launch in June 2019,[xv] this initiative underscores European desires to reduce their dependence on U.S.-dominated financial system. In 2018, French Minister Bruno Le Maire said, “I want Europe to be a sovereign continent, not a vassal, and that means having totally independent financing instruments.”[xvi] Since this comment, tensions between the E.U. and U.S. have escalated even further; both sides have imposed punitive economic measures on each other,[xvii] and it is probable that the weaponization of trade and sanctions will continue.
In addition to these challenges, emerging technology will exacerbate threats to the American financial hegemony. For instance, Russia, Venezuela, and North Korea have all begun to experiment with cryptocurrencies that could decrease their use of the dollar.[xviii] Cryptocurrencies and blockchain technology are already being used on daily basis by individuals and organizations who wish to escape oversight, which decreases the importance of the U.S.-built financial infrastructure and of American leverage.[xix] Presently, these alternative payment mechanisms do not threaten the traditional banking system. However, if they keep growing and gain users worldwide, Washington will slowly lose its ability to monitor transactions, to track financial footprint of illicit actors, and to employ financial pressure against them.
To mitigate these issues, Washington should stop weaponizing its prime position in the financial system and instead implement sanctions only as part of a carefully and methodically thought out strategy. Sanctions should be primarily employed as a coercive tool, carried out in pursuit of attainable policy objectives that are clearly presented to the adversary. If Washington continues overusing them, sanctions will lose their effectiveness and will serve only as a form of punishment. U.S. policymakers should also work to uphold existing institutions and reaffirm existing partnerships. This will reinforce the current system and will disincentivize foreign actors from pursuing alternative financial institutions and mechanisms, which are expensive and time-consuming to integrate.