Last week I analyzed “Operation Economic Outcast” — the White House’s plan to cripple Iran by cutting off everyone who trades with it. You can catch up here:
Now, it’s time for The Professor Is In, where I sit down to answer audience questions about this topic. My new producer, Augusta Chapman, joined me for the conversation.
The dollar is dominant. For now.
One question that stuck with me was about the dollar. One reason we think we can push Iran around is because we can cut off their access to the dollar system. But every time we use access to the dollar as an ultimatum, we hand other countries a reason to build an alternative. People have been predicting the end of dollar dominance for decades and it hasn’t happened. So how seriously should we take the risk?
To answer that, it helps to be clear about what dollar dominance — and the role of the U.S. dollar as a “global reserve currency” — actually is. If I tell anyone, anywhere, that a barrel of crude oil costs $90, they’ll assume I mean ninety American dollars — not Australian, Canadian, or Hong Kong dollars. So “dollar dominance” is a linguistic convention, the same way inches are a convention here and centimeters are everywhere else.
Once the world quotes prices in dollars, it writes contracts in dollars. That $90 barrel of Brent might be Norwegian crude, pumped by a Norwegian company and sold to a German refiner. Not one American is involved — and the price is still quoted in U.S. dollars. And so an Aussie buying European oil needs U.S. dollars. And this is just one example. If you want to trade Australian dollars for British pounds, you’ll usually sell the Aussie dollars for U.S. dollars and use those to buy pounds. The dollar sits in the middle of nearly 90% of all foreign exchange transactions. This in turn means an enormous share of global financial transactions runs through pipes owned or regulated by the United States.
We get two things out of the dollar’s centrality to global commerce. One is the sanction power Bessent is currently waving around. The other sounds a little more boring: portfolios all over the world hold dollars. That’s not because dollars are inherently special; it’s because everyone else holds them too. All of that demand to hold dollars means the U.S. government borrows at lower interest rates than almost anyone else. This is sometimes called America’s “exorbitant privilege,” and it means our government pays lower rates on its huge debt. As a result, we save billions of dollars a year in interest bills.
Is the U.S. dollar the MySpace of currencies?
Dollar dominance gives the United States a weapon that other countries don’t have — the ability to financially punish bad actors. But it’s so valuable that we ought to use this weapon rarely, and carefully.
Think about how fast conventions change. Everyone was on MySpace until everyone was on Facebook. Everyone was on Facebook until everyone was on Instagram. A wave of people tried to leave Twitter for Mastodon and discovered that a social network is lonely if the rest of the world hasn’t joined you. These equilibria can look stable until a change begins, and then each defection makes the next one easier.
We don’t know whether the U.S. dollar is the MySpace of currencies. And we probably won’t know until we know which currency will be the Facebook.
There’s another level here, too. If using Facebook required you to say “I hate Iran” out loud eight times, you might well switch to Instagram — not because you have strong feelings about Iran, but because it’s a hassle. So what happens if we force you to say “I hate Iran” to use U.S. dollars? Pretty soon, people around the world might find using the euro to be less annoying. The dollar is a real instrument of power. It just isn’t one we can use repeatedly without degrading the value of the asset itself.
Will Operation Economic Outcast work?
Even prior to “Operation Economic Outcast,” Iran was already subject to one of the world’s most extensive sanctions regimes, and by one recent count, it faces over 6,000 sanctions and designations, plus a massive naval blockade.
What’s left is pressuring third parties. This means leaning on Iran’s key trading partners to lean out, and here, the key names are China, Russia, and Turkey. Secretary Bessent’s threat is: Go along with U.S. plans to isolate Iran, or we isolate you.
That threat only works if we’re prepared to follow through with a costly trade and financial war against these powerful nations. Yet at the same press conference announcing this threat, Bessent basically admitted he’s unlikely to follow through. When pressed on why the administration is not immediately imposing its threatened sanctions, he responded with the suggestive rhetorical question: “Why would I want to blow up the global financial system?” Hmmm… I think he should have prepared better for that question.
All of this sounds like another administration announcement full of sound and fury, signifying nothing. Markets heard this. They have seen sound and fury from this White House before, and they’ve figured out what it signifies. That’s why Secretary Bessent announced an “Economic D-Day,” and markets basically shrugged.
A policy that’s not going to be enforced is no policy at all.
More on the Iran sanctions
Other questions Augusta put to me:
What makes the Iran sanctions different from Cuba?
Where does China fit into all this? (Answer: China is André the Giant, and most people who fought André should have stayed home.)
Do third countries like Australia and Canada gain anything by going along?
Finally, is there a case for optimism?
There is, actually. Economic warfare is much better than guns-and-bombs warfare. The standard diplomacy sequence is talk first, sanction second, bomb last. But we ran it in reverse. This was a war we were told would take four to six weeks. We’re six months in, and we’re reaching for the tools we should have started with.
Watch the full episode for the rest.
Can you please speak to the Project 2025 point to go back to the gold standard? Is that feasible and if so the impact? Thanks