Feasibility

Most importantly, a multilateral approach to dollar adjustment will only work if our trading partners have dollars to sell.

In contrast to the period of the Plaza Accord, most currency reserves these days reside in the hands of our Middle Eastern and Asian trading partners, not our European ones.

Combined forex reserves in the Eurozone are approximately $280 billion.

Switzerland has an additional ~$800 billion.

By contrast:

• China has $3 trillion in official reserves (though unofficial reserves are likely much higher given the state-owned nature of the Chinese economy).
• Japan has $1.2 trillion
• India $600 billion
• Taiwan $560 billion
• Saudi Arabia $450 billion
• Korea $420 billion
• Singapore $350 billion.

Most of the dollars available to be sold by governments are in the hands of Middle Eastern and East Asian governments.

Some of these nations are not as friendly as the Europeans were during the Cold War. It will require a different kind of diplomacy to procure that end than the diplomacy that produced the Plaza Accord, and the mixes of sticks and carrots may be extremely challenging to get right.

Moreover, a large fraction of the U.S. debt is held by private sector investors, both institutional and retail. These investors will not be convinced to term out their Treasury holdings as part of some sort of accord.

A run by these investors out of USD assets has potential to overwhelm the bid for duration coming from a term out from the foreign official sector. The extent to which private sector assets flee the dollar will depend on the price sensitivity of those investors. Assets held for reserve purposes are less likely to flee than assets held for wealth maximization. The difficulty in persuading trading partners to agree to such an approach is a good reason for currency tools to be used after tariffs, which provide additional leverage in negotiations. If a currency agreement is reached, removing tariffs can be a big part of the incentive.

Unilateral Currency Approaches

Consensus on Wall Street is that there is no unilateral approach that the Trump Administration can take for strengthening undervalued currencies. These economists tend to point to the Federal Reserve’s policy rate as the main driver of the dollar and then emphasize that the Fed will not cut rates merely because the President wants to achieve a currency outcome.

This conclusion is wrong. There is a variety of steps an Administration can take if it is willing to be creative, that do not rely on the Fed cutting rates.

IEEPA

For instance, the International Emergency Economic Powers Act, signed into law by President Jimmy Carter in 1977, gives the President sweeping powers over international transactions in response to foreign-origin threats “to the national security, foreign policy, or economy of the United States.”18

Such powers include the ability to limit or prohibit transfers of credit, payments or securities internationally.19 The Act is an important foundation of Treasury’s sanctions powers and financial extraterritoriality.

IEEPA can also be used to disincentivize the accumulation of foreign exchange reserves, if the Administration wills it. If the root cause of dollar overvaluation is demand for reserve assets, Treasury can use IEEPA to make reserve accumulation less attractive. One way of doing this is to impose a user fee on foreign official holders of Treasury securities, for instance withholding a portion of interest payments on those holdings. Reserve holders impose a burden on the American export sector, and withholding a portion of interest payments can help recoup some of that cost.

Some bondholders may accuse the United States of defaulting on its debt, but the reality is that most governments tax interest income, and the U.S. already taxes domestic holders of UST securities on their interest payments. While this policy works through currencies as a means of affecting economic conditions, it is actually a policy targeting reserve accumulation and not a formal currency policy.

Legally, it is easier to structure such a policy as a user fee rather than a tax, to avoid running afoul of tax treaties.

Such policy is not a capital control, since aiming it exclusively at the foreign official sector targets reserve accumulation rather than private investment.

18 50 U.S.C. §1701(a) 19 50 U.S.C. §1702(a)1

Of course, a user fee risks inducing volatility. Incentivize too much reserve selling and there can be a rout in the dollar, spikes in interest rates, and limits to our powers of financial extraterritoriality. However, there are steps an Administration can take to mitigate these risks:

1. Start small and take small steps.

By starting with a small user fee, say 1% of interest remittances, Treasury can avoid provoking a deluge of flows.

If that’s not sufficient to achieve the desired devaluation, go up to 2%. And so on. With such a drastic change in policy with enormous potential consequences, gradualism is necessary. It’ll take time to find the “right” level, but patience will help reduce adverse consequences. To become even more gradual, Treasury could explore imposing a fee only on new issues, rather than old ones.20

2. As in tariffs, differentiate among countries.

Presumably the Administration would want to withhold remittances to geopolitical adversaries like China more severely than to allies, or to countries that engage in currency manipulation more severely than to those that do not.

The Administration would likely want to give our allies the benefits of reserve currency usage, not our adversaries. Tax rates experienced by different nations on their reserve holdings can be a function of their relationship with America.

Treasury can implement the fees through securities custodians and financial intermediaries; it is well within Treasury’s anti-money-laundering and financial intelligence toolkits to do a good job identifying the beneficial owners of most of Treasurys.

3. Secure the voluntary cooperation from the Federal Reserve.

The Fed has a long history of deferring to Treasury on matters of currency policy, and Treasury to the Fed on matters of short rates and demand stabilization—for instance, see the lengthy history on this subject in Mohsin (2024). Bordo, Humpage and Schwartz (2010) review the history of prior currency accords and joint intervention.

When Treasury reaches a decision to adopt a policy on the dollar, the Fed typically assists with implementation; the Foreign Exchange Desk of the Federal Reserve System can help buy and sell foreign exchange to achieve Treasury’s goals. (For more on how the Fed might buy foreign exchange, and the need to sterilize it, see the next section.)

There is precedent for cooperation from the Fed in capping interest rates increases that occur as a side effect of Treasury’s intervention in foreign exchange markets.

Crucially, the “dual mandate” of the Fed is actually a triple mandate: Congress delegated the Fed’s goals of “maximum employment, stable prices, and moderate long-term interest rates.”21 The last of these mandates provides a basis for intervention if interest rates spike as a result of shifting currency policy, and procuring pre-commitment for a backstop can help avoid volatility. The Fed has a statutorily assigned mandate—no less important than prices or employment—to address interest rates.

For example, as recounted in Alon and Swanson (2011), the goal of the original Operation Twist during the Kennedy Administration was to simultaneously prevent gold outflows (a currency goal) while keeping medium- and long-term interest rates low to support the economy. Operation Twist was a collaboration between the Fed and Treasury whereby Treasury increased its issuance of short-term debt and the Fed offset the new borrowing by buying longterm debt. Since currency flows are mainly dominated by short rates, this policy mix prevented currency outflows while allowing lower long rates to support the economy.

The Fed is likelier to coordinate with Treasury if it is offered the following terms: public support from the President; public acknowledgement from the White House that the intervention would be temporary during the transition period, and not permanent; and political support for its decisions on short rates so that it can still achieve its inflation and employment objectives. Essentially, the Fed will likely require guarantees of its independence to use short rates to achieve its inflation and employment mandates. This combination would effectively set a limit on the yield curve, not the absolute level of long rates.

20 This might also help alleviate any concerns about the constitutionality of this measure with respect to the contracts clause. 21 12 U.S.C. §225(a)

Three further observations on this strategy are necessary. First if reserve buyers are relatively price inelastic, then they may not be incentivized to diversify their holdings out of dollars by reduced yield. In this case, the currency may not move much, but the U.S. will save considerable interest expense remunerating these holders. In this way, even if the dollar doesn’t adjust to a fairer value, there is improved burden sharing in the form of subsidization of the U.S. taxpayer by reserve holders. If UST buyers are inelastic, then the U.S. is overpaying for the public goods it provides, and price discrimination can help the United States repcapture value.

Second, there may be concern that incentivizing too much movement out of dollar reserve assets can limit financial extraterritoriality, which President Trump has already emphasized he is determined to preserve, and threatened punitive tariffs on nations that stop using the dollar for transactions purposes. Critically, the imposition of a usage fee on foreign official Treasury holdings does not interfere with the usage of the dollar in payment systems, only in the savings function of reserve assets in the official sector; a country with substantial excess foreign exchange reserves can somewhat diminish those reserves without turning to other currencies for facilitating international trade. Moreover, this reinforces why it will be important to move slowly and in small steps with such a policy. Treasury would want to get a good sense of how its policies affect transactions and financial extraterritoriality before taking too much risk with user fees for Treasury holdings, and this argues for gradualism. Finally, it will be important to emphasize that this policy will not be extended to domestic holders of UST securities, since there is no currency advantage to doing so, and if the purpose is to raise revenue from interest income, there are other, traditional instruments for doing so. IEEPA only authorizes action on transactions involving a foreign party, anyway, so there is no authority in this structure for using applying a user fee to domestic holders.