The US dollar as the world’s reserve currency: why it matters for forex traders

The US dollar is the world's main reserve currency: central banks hold more of their foreign reserves in dollars than in any other currency, much of global trade and borrowing is done in dollars, and the dollar is on one side of almost nine in ten foreign exchange trades. For forex traders this matters because the dollar's behaviour sets the tone for most of the market, and because demand for dollars tends to rise in a crisis, often regardless of where the crisis started.

This guide explains where the dollar's role comes from, how it shows up in prices, the "dollar smile" theory that many traders use as a frame, and the practical consequences for positions in the major pairs.

What "reserve currency" means

A reserve currency is one that central banks and governments hold in large amounts as part of their official foreign exchange reserves. They hold reserves to defend their own currency, to pay for imports in an emergency, to service foreign debt and as a store of national savings. A reserve currency needs to be widely accepted, easy to invest in safe assets, and freely convertible.

The International Monetary Fund collects data on the composition of official reserves (the COFER dataset). Through 2025 the dollar's share of identified reserves was roughly 57%, with the euro a distant second at about a fifth, followed by the yen, sterling and others. The dollar's share has drifted down slowly over two decades, from above 70% around the year 2000, but it remains far larger than any rival. The IMF also notes that part of the quarter-to-quarter change comes from exchange-rate valuation: when the dollar weakens, the dollar value of euro reserves rises, so the dollar's share falls even if no central bank sells a dollar.

Reserve status is only one part of the picture. In trading terms, the bigger number is turnover. In the Bank for International Settlements' Triennial Survey of April 2025, the dollar was on one side of 89.2% of all trades, up from 88.4% three years earlier. Much of that is because the dollar is used as a vehicle currency: a bank converting Mexican pesos into Korean won will often go through the dollar, because the peso-dollar and dollar-won markets are far deeper than any direct peso-won market.

How the dollar got here

Bretton Woods

At the Bretton Woods conference in 1944, the Allied countries agreed a post-war system in which other currencies were pegged to the dollar, and the dollar was convertible into gold at 35 dollars an ounce for foreign governments. The United States held most of the world's monetary gold and was the largest economy, so the dollar became the anchor of the system almost by default.

The end of gold convertibility

By the late 1960s there were more dollars held abroad than the US could redeem in gold. On 15 August 1971, President Nixon suspended the dollar's convertibility into gold. After attempts to patch the system, the major currencies moved to floating exchange rates in 1973, which is the system the forex market still runs on. The dollar kept its central role even after the gold link ended, because the reasons people used it had become broader than gold.

Why it stayed on top

• Deep and liquid safe assets. The US Treasury market is the largest and most liquid government bond market in the world. A central bank that needs to park hundreds of billions safely, and sell quickly if needed, has few alternatives of the same size.
• Open capital markets. Money can move in and out of the US freely, and dollar assets are protected by a well-established legal system.
• Network effects. Oil and most other commodities are priced in dollars, a large share of world trade is invoiced in dollars, and a huge volume of international loans and bonds are in dollars. Each of these makes the others more convenient.
• A lack of a full alternative. The euro is shared by a large economy but its safe bond market is split across countries; the yuan is subject to capital controls; the yen, sterling and Swiss franc come from economies too small to absorb global reserves on their own.

Dollar funding and why the dollar rises in a crisis

The part of the dollar's role that matters most to short-term price action is debt. Companies, banks and governments outside the United States have borrowed very large amounts in dollars. When markets panic, revenues fall and lenders become cautious, and these borrowers need dollars to repay or roll over their debts. Investors also sell riskier assets and hold cash, and the cash is often dollars. The result is a rush for dollars that can push the currency up sharply, even if the crisis started in the United States.

Two well-known episodes illustrate this:

• The 2008 financial crisis. The crisis began in the US housing and banking system, yet the dollar strengthened against most currencies in the second half of 2008 as global banks scrambled for dollar funding.
• March 2020. In the first weeks of the Covid-19 market crash, the dollar surged as investors and companies sought cash, until the Federal Reserve cut rates and expanded its swap lines.

Fed swap lines

The Federal Reserve maintains standing swap lines with the European Central Bank, the Bank of Japan, the Bank of England, the Swiss National Bank and the Bank of Canada. These let those central banks borrow dollars from the Fed and lend them on to banks in their own jurisdictions. In 2008 and again in 2020 the Fed also opened temporary lines with other central banks. The lines exist precisely because dollar shortages abroad can destabilise markets, and their use is one of the clearest signs of how central the dollar is to global finance.

The dollar smile: a theory, not a law

The "dollar smile" is a framework associated with Stephen Jen, then a currency strategist at Morgan Stanley, in the early 2000s. It describes three broad states:

1. Left side of the smile: global stress. Investors flee to safety and borrowers need dollars, so the dollar strengthens, even if the US economy is not doing well.
2. Middle of the smile: a weak or middling US, a calm world. When US growth is soft, US interest rates are expected to fall and investors are willing to take risks elsewhere, the dollar tends to weaken.
3. Right side of the smile: strong US growth. When the US economy outperforms and US rates are expected to stay high or rise, money flows into dollar assets and the dollar strengthens.

The frame is useful because it reminds you that the dollar can rise for opposite reasons: fear and confidence. It is also a simplification. Episodes do not always fit neatly, the yen and Swiss franc compete with the dollar as havens, and US-specific shocks, such as concerns about US public finances, policy credibility or trade disputes, can weaken the dollar even in a risk-off market. Treat the smile as a way to ask "which part of the cycle are we in?", not as a prediction.

How the dollar's role shows up on your charts

US data moves almost everything

Because every major pair includes the dollar, a US jobs report, a CPI release or a Fed meeting can move EUR/USD, GBP/USD, USD/JPY, AUD/USD and the rest at the same moment. That is why the US release calendar dominates the forex week. Our guides to non-farm payrolls, CPI releases and FOMC meetings cover the main ones.

Gold, oil and other commodities

Most commodities are priced in dollars, so a stronger dollar makes them more expensive for buyers using other currencies, all else equal. That is one reason gold often moves opposite to the dollar, though the link breaks regularly when other forces dominate. See the XAU/USD profile.

Emerging-market currencies

Countries and companies with large dollar debts are hurt when the dollar rises, because their debts become more expensive in local currency. That is why exotic pairs such as USD/TRY, USD/ZAR and USD/MXN can move violently in periods of dollar strength. See the USD/ZAR profile for one example.

Measuring the dollar

The US Dollar Index (DXY) is the most quoted gauge of the dollar's overall direction, though it is weighted heavily towards the euro. The Federal Reserve's broad trade-weighted index includes more currencies, including the Chinese yuan and Mexican peso.

Worked example: four trades, one dollar bet

Illustrative prices and sizes. A trader with a 10,000 USD account holds four positions, each with a stop set to risk about 1% of the account:

• Long 0.20 lots EUR/USD at 1.1000: long 20,000 EUR, short 22,000 USD.
• Long 0.10 lots GBP/USD at 1.3000: long 10,000 GBP, short 13,000 USD.
• Short 0.15 lots USD/JPY: short 15,000 USD, long the equivalent in yen.
• Long 0.10 lots AUD/USD at 0.6500: long 10,000 AUD, short 6,500 USD.

On paper these are four trades on four different currencies. In dollar terms, all four are short the dollar, for a total of 22,000 + 13,000 + 15,000 + 6,500 = 56,500 USD.

Now suppose a strong US jobs report lifts the dollar about 1% against all four currencies. The loss is roughly 1% of 56,500, or about 565 USD, which is 5.65% of the account in one afternoon. If the move is large enough to hit all four stops, the trader loses about 4% (four trades at 1% each), plus any slippage, rather than the 1% they might think of as "one trade's risk".

The lesson is not that you can never hold more than one dollar trade. It is that you should count your dollar exposure as a single risk and cap it. A simple rule is to set a maximum total risk for all positions sharing the same currency, for example 2% of the account. The guide to currency correlation shows how pairs that share a currency move together, and the position size calculator helps you split a fixed risk across several trades.

De-dollarisation: what is real and what is noise

Every few years there are headlines about the end of the dollar's dominance. Some of the trends are real: the dollar's share of reserves has drifted lower, central banks have been buying gold in large amounts, some trade is settled in other currencies, and sanctions have encouraged some countries to diversify away from dollar assets.

The counterpoints are also real. The dollar's share of forex turnover rose between the 2022 and 2025 BIS surveys. No other currency offers a government bond market of comparable size and openness. Shifts in reserve composition happen over decades, not weeks.

For a trader, de-dollarisation is a slow structural story that rarely tells you what the dollar will do this week or this month. It can matter for long-term investors; it is not a timing tool.

If your account is not in dollars

Most EU traders fund accounts in euros, and many UK traders in pounds. The dollar's role still reaches you in two ways. First, results on any pair quoted in dollars, which includes EUR/USD, GBP/USD, AUD/USD, NZD/USD and gold, are calculated in dollars and then converted into your account currency, so the value of each pip changes as the dollar moves. A 10 USD pip is about 9.09 EUR when EUR/USD is 1.1000 and about 8.70 EUR when it is 1.1500 (illustrative rates). Second, if your broker converts results at a fee, that cost applies to every closed trade in a dollar-quoted instrument.

Neither effect is large on a single trade, but both are easy to forget when you compare results over months in which the dollar has moved a lot. The guide to currency conversion and account base currency explains the mechanics, and the pip value calculator shows the current value of a pip in your own currency.

Common mistakes

• Assuming bad US news means a weaker dollar. In a global sell-off, dollar demand can rise even when the problem is American.
• Counting dollar trades as diversified. Long EUR/USD, long GBP/USD and short USD/JPY are largely the same bet on the dollar.
• Treating the dollar smile as a forecasting model. It is a description of past tendencies with frequent exceptions.
• Forgetting the dollar in commodity trades. A gold or oil position includes dollar exposure, so a strong US data release can move it as much as news about the commodity.
• Reading long-term reserve trends as short-term signals. A headline about central banks diversifying says little about next week's EUR/USD.

Frequently asked questions

Why is the US dollar the world's reserve currency?

Because it combines the world's largest and most liquid government bond market, open capital flows, a long-established legal framework, and network effects from dollar pricing of commodities, trade invoicing and international borrowing. Its role was set at Bretton Woods in 1944 and survived the end of gold convertibility in 1971.

What share of global reserves is in dollars?

According to the IMF's COFER data, the dollar accounted for roughly 57% of identified official foreign exchange reserves through 2025, with the euro second at around a fifth. The share has been drifting lower over the long term.

Why does the dollar go up when markets crash?

Large amounts of debt outside the US are in dollars, so in a crisis borrowers need dollars to repay, and investors move into cash and US Treasuries. That surge in demand can strengthen the dollar even when the crisis begins in the United States.

What is the dollar smile?

A theory associated with Stephen Jen that the dollar tends to strengthen at both ends of the cycle, in global stress and in strong US growth, and to weaken when US growth is middling and global risk appetite is healthy. It is a useful frame with many exceptions, not a rule.

Will the dollar lose its reserve status?

Nobody can say, and The PIP Report does not forecast it. The dollar's share of reserves has declined slowly, but it remains far larger than any other currency, and its share of forex trading has not fallen. Changes of this kind have historically taken decades.

How does the dollar affect my forex trades?

Every major pair includes the dollar, so US data, Fed decisions and global risk mood affect most positions at once. Count your total dollar exposure across trades, and plan around major US releases, where spreads and slippage can increase.