Asian Development Bank Institute (ADBI) working paper Determinants of the International Use of Currencies: Implications for US Dollar Dominance analyses the structural determinants of international currency dominance, explaining why the US Dollar (USD) continues to anchor the global financial system despite shifts in economic power.
The study identifies three core drivers of currency internationalisation: economic size (GDP share), financial market development and openness, and network externalities (“inertia”). Among these, inertia arising from the historical use of the dollar as a medium of exchange, unit of account, and store of value, remains the strongest constraint on transition to alternative currencies.
While the global share of the Euro, Pound Sterling, and Yen zones has declined, the Chinese Yuan (RMB) zone has expanded significantly, emerging as the second-largest currency zone globally. However, the analysis suggests that even with increased economic size and financial openness, the RMB is likely to expand faster as a regional anchor currency than as a global reserve currency.
India-Specific Dynamics
India’s role in this global monetary landscape is marked by a gradual transition in its "Anchor Currency" profile. Historically, the Indian Rupee has been heavily anchored to the USD, with secondary influences from the British Pound (GBP) and the Euro (EUR).
Using the Frankel–Wei and Kawai–Pontines methodologies, the ADBI analysis suggests that since 1999, the RMB has emerged as a functional anchor currency for India, reflecting China's growing footprint in regional trade. While India’s allocation to the USD zone remains dominant, its allocation to the RMB zone has grown steadily between 1980 and 2023.
This shift highlights India's evolving relationship with major global currencies and the increasing complexity of maintaining exchange rate stability (ERS) in a multi-polar financial system.
Key Determinants of Currency Usage
Inertia & Network Effects: The strongest factor supporting the USD; even if competitors match the US in GDP or financial openness, the historical habit of using the dollar limits the pace of any transition.
Financial Market Openness (FMO): Critical for currencies attempting to transition from regional anchors to global stores of value.
Macroeconomic Stability: Low volatility and steady debt-to-GDP ratios are essential for maintaining global trust in a currency's long-term value.
RMB Growth Scenarios: The paper projects that even if China’s GDP equals the US and its markets reach South Korean levels of openness, the RMB will likely expand as an anchor currency much faster than it will as a global reserve currency.
India’s Zone Allocation: Detailed data shows India’s economy is now split across major currency zones, with a notable move away from the residual "floating zone" toward more defined anchor weights.
What is an "Anchor Currency"?
An anchor currency is a dominant international currency that other countries use as a reference point to stabilize their own exchange rates. When a central bank, such as the Reserve Bank of India, manages the value of the Rupee, it often does so by "pegging" or weighting it against a basket of these anchors, most notably the USD.
An anchor currency provides a sense of predictability for international trade and investment. The ADBI report notes that a currency can become a powerful regional anchor (like the RMB in Asia) long before it becomes a global reserve currency used by central banks worldwide.
Policy Relevance
Informs Exchange Rate Management: For the RBI, understanding the "Inertia Effect" is crucial for managing the Rupee’s volatility, as it explains why the USD remains the safest haven during global shocks.
Guides Trade Diversification: India’s growing allocation to the RMB zone suggests that trade-settlement policies may need to increasingly account for Yuan fluctuations alongside traditional USD and EUR tracking.
Highlights Financial Stability Risks: The paper warns that a "declining share of US GDP" and over-reliance on "exorbitant privilege" could eventually damage the USD's governance, requiring India to prepare for a multi-currency reserve future.
Benchmarking Financial Openness: The study provides a roadmap for how EMDE (Emerging Market and Developing Economy) currencies can gain international status by improving market liquidity and institutional trust.
Follow the Full Analysis Here: ADBI: Determinants of Global Currency Dominance