The Euro’s Challenge to the Dollar
With the creation of the European Monetary System and the euro in 1999, the U.S. dollar is facing a challenge to its position as the key reserve currency in international financial transactions. Adoption of the euro increases integration of Europe’s financial markets, which could help them rival those in the United States. The resulting increase in the use of euros in financial markets will make it more likely that international transactions are carried out in the euro. The economic clout of the European Union rivals that of the United States: Both have a similar share of world GDP (around 20%) and world exports (around 15%). If the European Central Bank can make sure that inflation remains low so that the euro becomes a sound currency, this should bode well for the euro. However, for the euro to eat into the dollar’s position as a reserve currency, the European Union must function as a cohesive political entity that can exert its influence on the world stage. There are serious doubts on this score, however, particularly with the “no” votes on the European constitution by France and the Netherlands in 2005 and the recent fiscal problems in Greece. Most analysts think it will be a long time before the euro beats out the dollar in international financial transactions.