A:

T

here is no such thing as a world currency. However, since World War II, the dominant or reserve currency of the world has been the U.S. dollar. At one time, all currencies were backed by gold, meaning that every country had to hold in reserve enough gold for all of the currency in circulation. In other words, gold was the standard by which all currencies were measured. After World War II, the United States became the world's largest and most dominant economy. Due to the global expansion that took place after the war, bank reserves did not hold enough gold reserves to back the growth of the currency, which was needed to finance the global expansion further. Consequently, the U.S. disconnected from the gold standard and began to print more paper money to finance the world's growth requirements. Because the U.S. was such a powerful economy, other countries agreed to accept the dollar as legitimate tender and followed suit to waiver the gold standard. Thus, the dollar became the most dominant currency and almost all commodities came to be quoted internationally in U.S. dollars.

As time went by and other economies developed, so did the value of their currencies. Today, the other two major currencies are the euro (the common currency of many European member states) and the Japanese yen. While the U.S. dollar remains the reserve currency of the world, it has depreciated in value in recent years and, consequently, the euro has increased in importance. In fact, the world can be divided into three main currency blocks, with the Americas dealing mostly in dollars, Europe dealing in euros, and the Asian countries becoming more connected to the yen. It is no coincidence that the three largest economies - the U.S., Europe and Japan - also represent the three most dominant currencies.

In the case of less dominant currencies, countries like Australia once had to do business with Japan by first doing business with the U.S. - converting its currency into U.S. dollars and then from U.S. dollars into Japanese yen. Today, there are many cross currencies, or instances when a currency pair is not associated with the U.S. dollar, allowing Australia to transact directly with Japan using AUD/JPY.

(For more on this topic, see Global Trade and the Currency Market and The Gold Standard Revisited.)






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