On war, debt, and hard currency

Mahmoud Mohieldin
Tuesday 31 Oct 2023

Mahmoud Mohieldin takes on the complex issues at the intersection of the global economy and the evolving world order



arfare is sweeping the world on a scale unseen since the end of World War II. The most heinous and heart-breaking product of war is the suffering inflicted on innocent civilians: loss of life, severe and permanently debilitating injuries, destruction of people’s homes and civilian structures, deprivation from necessities and sources of livelihood. The world is watching such horrors unfold around the clock right now in Gaza despite the resolution adopted by the UN General Assembly and other urgent appeals to stop the ruthless war machine, if only for a humanitarian truce. Another product of warfare is that, even if the fighting is restricted to a particular geographic area, as in Ukraine or the Palestinian Occupied Territories, the regional and international political and economic repercussions grow increasingly palpable in tandem with the growing risks of a widening conflict. The succession of geopolitical conflicts, the declining confidence in the international order, and the intensification of global polarisation all augur a proliferation in outbreaks of ever more destructive wars.

Princeton University professor of history and international affairs Harold James attributed the relative global stability during the Cold War to two factors. The first was the balance of nuclear deterrence between the Cold War’s main protagonists, the Soviet-led eastern camp and the US-led Western camp. That factor was termed “mutually assured destruction,” meaning that an attack by one nuclear power would cause the total annihilation of both, so the rational alternative was a stable, if tense, peace. The second factor was the US dollar’s pre-eminence as a reserve currency. With this power, the dollar acquired a financial nuclear capability which in turn necessitated a similar rule: it must not be weaponised if it is to continue to serve as a mainstay for monetary and financial stability. Just as the value of nuclear weapons resides in their deterrent power which would be lost along with everything else if used, weaponising the dollar would usher in the collapse of its regime.

These two assertions were accepted by all during the Cold War era, which ended with the fall of the Soviet Union without a war apart from the cold one. Then came the ascendency of a mono-polar hegemon which reigned uncontested until a multipolarity driven by the growing economic weights of emergent powers began to emerge. This is the current era, and it does not seem to take much for granted in view of the prevailing uncertainty, lack of leadership, deficit in trust and surfeit of crises. Since the outbreak of the war in Ukraine, the nuclear threat is being repeatedly brandished, and the dollar has been weaponised to prevent Russia from using it in international transactions, to the extent that it has been previously banned from the SWIFT system after it annexed Crimea in 2014.

For a currency to become a hard currency in the international monetary system, it must first not be a “soft” currency for domestic use. In other words, there must be a consensus that the currency serves its three recognised functions as a unit of account in transactions, an accepted medium of exchange for payment, and a store of value. If a currency grows soft due to a continuous deterioration of its value due to inflation and the increase in its supply to pay off debts, people turn away from it and look to other currencies to replace it or other means to counter the effects of inflation, such as gold. Conversely, if a currency stabilises domestically and the economy that uses it expands in production, investment, and exports, it will have greater appeal among people in other countries who will accept it as a currency that performs its three required functions in cross-border transactions. In this manner it becomes an international currency which, if it grows stronger, can boast economic and political stability, and backed by the force of law in its home country can become a reserve currency. This is the kind of currency that central banks and other institutions like to keep on hand generally in the form of treasury bills, bonds and other financial instruments denominated in that currency to benefit from their high liquidity and to protect the rights of their holders over time.

Global hard currency issuers enjoy major prerogatives. One is the great advantage that reserve currency countries have of being able to borrow from elsewhere in the world in their own currency and then, for all practical purposes, force every holder of that currency around the world to help them pay back their debt.  This prerogative is currently exercised by the US dollar, which officially inherited the throne of the UK pound sterling in 1956 following the Suez War, otherwise known as the Tripartite Aggression against Egypt. The US had stepped in to stop the aggression and dictate terms for the cessation of hostilities, thereby driving home Washington’s unrivalled dominance over the Western camp. London was left to contemplate the ramifications of what became known as the “Suez moment,” the moment the weaker party woke up to its weakness to which the rest of the world had borne witness for a long time.

The sterling was once a reserve currency that had comfortably rested at the helm of the global economy. Despite its political and military victory in World War I, Britain sustained huge economic losses. It had sold assets and borrowed what amounted to more than 130 per cent of its GDP to fund the war, increasing its national debt to six times its pre-war level, according to the US economist Barry Echingreen. Although the dollar had emerged as a potential rival to sterling in the 1920s, the British government took steps to bring inflation under control. Sterling was thus able to withstand the competition which was a crucial component of the goal of retaining the overall power at the heart of the empire upon which the sun never set.

Yet again, after almost 25 years, Britain emerged politically and militarily victorious after World War II. It also emerged with even larger foreign debt and mounting domestic obligations that forced it to reduce the value of its currency. Before long, central banks reduced their holdings in sterling as demand for it shrunk. Then came the Suez moment when US president Eisenhower refused to support Britain and, by extension, its currency, which plummeted because of the war.

The question now is whether the dollar will continue to reign over our rapidly changing and tumultuous world.


This article appeared in Arabic in Wednesday’s edition of Asharq Al-Awsat.

* A version of this article appears in print in the 2 November, 2023 edition of Al-Ahram Weekly

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