The US Dollar's reign as the global reserve currency is facing a significant challenge, with its dominance slipping to levels not seen since 1994. This shift is a result of central banks around the world diversifying their portfolios, moving away from traditional reserve currencies and exploring alternatives.
The latest data from the IMF's Currency Composition of Official Foreign Exchange Reserves reveals a steady decline in the share of USD-denominated assets held by central banks. In Q3, this share dropped to 56.9%, down from 57.1% in Q2 and 58.5% in Q1. This decline is a clear indication that the dollar's appeal as a safe-haven currency is waning.
USD-denominated foreign exchange reserves encompass a range of assets, including US Treasury securities, mortgage-backed securities, agency securities, corporate bonds, and other USD-based holdings. Notably, central banks' own currency-denominated assets, such as the Fed's Treasury securities or the ECB's euro-denominated securities, are excluded from this calculation.
Contrary to popular belief, foreign central banks have not been dumping their USD-denominated assets, like Treasury securities. In fact, they have slightly increased their holdings. However, the real story lies in their diversification strategy. Central banks have been actively adding assets denominated in other currencies, particularly a diverse range of smaller currencies, whose collective share has surged. As a result, the percentage share of USD assets has gradually decreased over the past decade.
As the dollar's share approaches the 50% mark, it remains the largest reserve currency by a significant margin. However, this decline has consequences. Being the top reserve currency has allowed the US to borrow more affordably, funding its substantial twin deficits - the trade deficit and the budget deficit. This privilege has enabled the US to maintain these deficits for decades. As the demand for USD debt diminishes, it may become increasingly challenging to sustain these deficits in the future.
The importance of holding the top reserve currency for the US cannot be overstated. Foreign central banks' purchases of USD-denominated assets, such as Treasury securities, have historically helped push up prices and drive down yields. This dynamic has facilitated cheaper borrowing for the US, making it easier to manage its large-scale deficits. However, as the dollar's status as a reserve currency continues to wane, the US may face higher borrowing costs and increased difficulty in maintaining its current deficit levels.
The dollar's share has dipped below 50% before, notably in 1990 and 1991, following a prolonged period of high inflation and interest rates in the US. This decline in confidence in the Fed's ability to control inflation led to four recessions over those years, including a severe double-dip recession. Central banks began to question the Fed's commitment to tackling inflation, which had been rising in three successive waves.
The chart below illustrates the dollar's share over time, with the dotted line indicating the 50% threshold. The dollar's share reached its lowest point at 46% in 1991, after which the Fed successfully brought inflation under control. This led to a resurgence in central banks' confidence, resulting in a loading up of dollar-assets.
The introduction of the euro posed another challenge to the dollar's dominance, although not to the extent predicted by European politicians who had promised parity with the dollar. Their aspirations ended with the Euro Debt Crisis, which began in 2009.
Over the past decade, a new set of "non-traditional reserve currencies" has emerged, as classified by the IMF. These smaller currencies have gained traction, further eroding the dollar's share.
The chart below provides a detailed view of the dollar's share over the years, with Q3 2025 data included.
Despite not dumping USD-denominated securities, foreign central banks have increased their holdings slightly in Q3 to $7.4 trillion, marking the third consecutive increase. Since mid-2014, their USD-asset holdings have remained relatively flat, despite some sharp fluctuations.
The decline in the percentage share of USD assets can be attributed to the growth of foreign exchange reserves denominated in other currencies, particularly a diverse range of smaller currencies. Central banks have been actively diversifying their foreign exchange assets, leading to this shift.
The chart below illustrates foreign central banks' holdings of USD-denominated assets, including US Treasury securities, MBS, agency securities, corporate bonds, and more, in trillions of dollars:
The top foreign exchange reserves by currency are as follows:
- USD assets: $7.41 trillion
- Euro assets (EUR): $2.65 trillion
- Yen assets (YEN): $0.76 trillion
- British pound assets (GBP): $0.58 trillion
- Canadian dollar assets (CAD): $0.35 trillion
- Australian dollar assets (AUD): $0.27 trillion
- Chinese renminbi (RMB) assets: $0.25 trillion
The euro's share, at around 20%, has remained relatively stable since 2015. Prior to the Euro Debt Crisis, it was on an upward trajectory, reaching nearly 25%.
The remaining reserve currencies, represented by the colorful spaghetti at the bottom of the chart, have collectively gained share at the expense of the dollar. Meanwhile, the euro's share has remained roughly unchanged since 2015.
The rise of "non-traditional" reserve currencies is a notable development. The chart below provides a closer look at these currencies, which have experienced a combined surge in assets. Together, they now account for a share of 5.6%, just below the yen-denominated assets (5.8%).
Interestingly, the share of RMB (yellow) has been declining since Q1 2022, returning to its 2019 levels. This decline can be attributed to ongoing capital controls, convertibility issues, and various other challenges.
In summary, both the USD and RMB have lost share to the "non-traditional reserve currencies" as central banks diversify their portfolios away from assets denominated in these traditional currencies.
This article provides a comprehensive overview of the shifting landscape of global reserve currencies. What are your thoughts on the future of the US Dollar's dominance? Will it continue to face challenges, or will it regain its former glory? Feel free to share your insights and predictions in the comments below!
