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.)






RELATED FAQS
  1. Why is the U.S. dollar shown on the top of some currency pairs and on the bottom ...

    All currencies are traded in pairs. The first currency in the pair is called the base currency while the second is called ... Read Answer >>
  2. How do you make money trading money?

    How someone makes money in forex is a speculative risk: you are betting that the value of one currency will increase relative ... Read Answer >>
  3. What is foreign exchange?

    Foreign exchange, or Forex, is the conversion of one country's currency into that of another. In a free economy, a country's ... Read Answer >>
Related Articles
  1. Insights

    A Primer On Reserve Currencies

    For nearly a century, the U.S. dollar has served as the world's premier reserve currency, but the future is uncertain.
  2. Investing

    Why Countries Keep Reserve Currency

    Central banks and financial institutions hold large amounts of foreign money as their reserve currency.
  3. Investing

    Gold: The Other Currency

    Throughout history, gold has held its value against paper currencies. Learn how it can help offset market risks.
  4. Trading

    Top 5 Hardest-Hit Currencies

    The value of a country's currency is dependent on many factors that will cause it to fluctuate, relative to other world currencies.
  5. Insights

    The Go-To Currency In 50 Years

    Discover why the euro will likely become heir to the currency throne.
  6. Investing

    What Is A Currency War And How Does It Work?

    We look at what a currency war is, what factors may lead to it, the impacts of such a strategy, and whether there is a currency war currently.
  7. Trading

    Drastic Currency Changes: What's The Cause?

    Currency fluctuations often defy logic. Learn the trends and factors that result in these movements.
  8. Trading

    How The Triffin Dilemma Affects Currencies

    Countries that issue reserve currencies are faced with a dilemma: keep other countries happy or achieve domestic monetary policy goals.
RELATED TERMS
  1. Currency

    Currency is a generally accepted form of money, including coins ...
  2. Currency Appreciation

    An increase in the value of one currency in terms of another. ...
  3. Base Currency

    The first currency quoted in a currency pair on forex. It is ...
  4. Counter Currency

    The currency used as the reference or second currency in a currency ...
  5. Currency Pair

    The quotation and pricing structure of the currencies traded ...
  6. Key Currency

    The currency used as a reference in an international transaction ...
Hot Definitions
  1. Short Covering

    Short covering is buying back borrowed securities in order to close an open short position.
  2. Covariance

    A measure of the degree to which returns on two risky assets move in tandem. A positive covariance means that asset returns ...
  3. Liquid Asset

    An asset that can be converted into cash quickly and with minimal impact to the price received. Liquid assets are generally ...
  4. Nostro Account

    A bank account held in a foreign country by a domestic bank, denominated in the currency of that country. Nostro accounts ...
  5. Retirement Planning

    Retirement planning is the process of determining retirement income goals and the actions and decisions necessary to achieve ...
  6. Drawdown

    The peak-to-trough decline during a specific record period of an investment, fund or commodity. A drawdown is usually quoted ...
Trading Center