The descent of the American dollar from its position of pre-eminence in the global financial system has for long been predicted. In fact, analysts around the world have in the recent past tended to see, rather prematurely though, every downward swing of the dollar against major currencies as irreversible. The issue at stake relates not so much to the short-term movements of the world's major currencies in relation to one another as to a possible realignment of the world's monetary system, in which the dollar while continuing to occupy a prime slot will cease to reign supreme as it has done all along since the Second World War. The dollar has been the world's reserve currency, the first choice of central banks to park their reserves. An overwhelming percentage of global trade including from India is invoiced in the dollar. Faith in the U.S. currency did not diminish even after the break up of the Bretton Woods agreement in 1971 when its link to gold was abandoned. However, since the beginning of 2002 at least, there has been a realisation that the dollar's future hinges on how some well-known imbalances in the global economy are unwound. The phenomenon of a burgeoning U.S. current account deficit expected to reach $900 billion or 7 per cent of the GDP this year being funded largely by the savings of other countries, especially Asian countries, cannot be sustained indefinitely.

A long-term solution does not lie in the realignment of currency equations alone, although that is where most of recent official initiatives seem to be concentrating. For instance, the ongoing U.S. government's attempts to make the yuan dearer in dollar terms so that imports from China become costlier will have other repercussions. Asian central banks hold almost $3 trillion as reserves China alone $1 trillion most of them in American securities. With a fall in the dollar, they will take a big hit. However, in a year when the dollar has been falling steadily in value against the euro, the pound and to some extent the yen, solutions based on currency realignments seem more plausible. There are reports that many central banks are diversifying their reserves. Most certainly the growing stature of the euro and the resurgence of Japan have provided policy makers with alternatives. The slowing down of the U.S. economy and the collapse of the housing bubble has underpinned the dollar's weakness. As always, the interest rate policies of central banks will play a major role in determining future currency alignments. The decline of the dollar may or may not be permanent but its persisting weakness would pose major challenges for India .