Prof. Schlevogt’s Compass No. 40: The global reserve ratchet – How dollar rule locks trade deficits

“Money promises abundance, only to return want.” (The Author)

In its disquieting force, this dictum cuts through the allure of monetary power to expose its central paradox: Abundance may broaden choice at the outset, only to unsettle balance and narrow freedom over time, as advantage matures into obligation.

The global supremacy of the dollar bestows upon the US an extraordinary latitude, permitting it to borrow on exceptionally favorable terms and thereby opening a wide spectrum of spending possibilities.

Yet over time, persistent budget deficits build into a mountain of debt, as the costs of debt service, compounding year by year, absorb an ever greater share of resources and progressively constrict the scope of policy choice. And still this is but one turn of the screw.

The Lex Boomerangi: America’s degradation from without

Issuing the world’s reserve currency does more than invite fiscal laxity; it warps the economy from the outside in. This is the law of the boomerang applied to money: global liquidity, domestic costs. As the systemic price of dollar supremacy, liquidity curdles into liability, and dominance hardens into dependency.

The so-called “exorbitant privilege” of reserve-currency status is not merely a financial distinction; it is a structural condition that quietly rewrites the nation’s external accounts, distorting incentives, and redistributing opportunities and risks, gains and losses, across regions, communities, and sectors.

With the passage of time, reserve-currency status leaves a familiar and deep-seated imprint on the US economy: not only chronic budget deficits and exponentially mounting debt, but also persistent trade imbalances and the gradual hollowing out of the industrial core, fueling populist revolt.

To begin with, the dollar’s global dominance distorts the terms of international exchange. A humble hand tool makes the logic plain.

Balance-of-payments mechanics: A vicious closed circuit

A ratchet turns only one way; in much the same fashion, reserve-currency dynamics, unfolding through iterative, self-reinforcing loops, propel trade disparities forward that are far easier to deepen than to undo. A brief recourse to the fundamentals of international economics renders the forces at work intelligible.

The balance of payments is the ledger of all economic transactions between a country and the rest of the world. It is governed by an unforgiving arithmetic rooted in the principles of double-entry bookkeeping on a planetary scale. Every flow gives rise to equal debit and credit entries, appearing as a payment or receipt matched by a corresponding financial transaction that changes assets or liabilities.

As the economy’s closed circuit, the balance of payments constitutes an accounting identity, an equation that admits no exception. By definition, the current account (encompassing trade in goods and services, net primary income from abroad, and unilateral transfers) and the capital and financial accounts (recording cross-border capital and financial claims) must exactly offset one another.