The sudden collapse of Afghanistan is raising questions about the standing of the U.S. in the eyes of its allies and enemies, while investors and analysts debated what it means for the dollar and other assets over the coming years and decades.

The upshot? Don’t expect any quick answers. For now, it appeared the chaos surrounding the Taliban’s seizure of power after 20 years of U.S. occupation, more than $1 trillion in spending and tens of thousands of lives lost was having no more than a modest impact on global markets.

“You have to be very tentative about making a connection based on dramatic events in a very small economy halfway around the world,” said Christopher Smart, chief global strategist and head of the Barings Investment Institute, in a phone interview.

Turning inward

“But to the extent that the U.S. withdrawal is in line with a country that’s been turning inward in many ways over the last decade, this is one more piece of evidence that the U.S. is less eager to police the world and spread its values of democracy and free markets,” he said.

With China and Russia moving quickly to recognize the new Taliban government, U.S. prestige is taking a hit with a darkening cloud potentially growing over U.S. Treasurys as a safe-haven asset and the dollar as the world’s reserve currency, Smart said.

At the same time, questions about U.S. leadership emerged after past crises, including the fall of Saigon and the aftermath of the Vietnam War, only to see the nation’s assets retain or even grow their primacy in the world financial system, he noted.

Typical shock reaction

Markets, including U.S. assets, were behaving Monday largely as would be expected given a geopolitical shock.

Treasurys and other core government bond markets, which typically serve as havens during periods of uncertainty, caught a bid. The yield on the 10-year Treasury note
TMUBMUSD10Y,
1.273%

fell to 1.256%, down more than 4 basis points from its level late Friday afternoon. Yields and debt prices move in opposite directions.

See: Worries about global growth outweigh report Fed moving closer to faster-than-expected tapering process

The Japanese yen, typically among the most sensitive safe-haven currencies, gained ground versus the dollar
USDJPY,
-0.34%

and other rivals. The dollar
DXY,
+0.11%
,
meanwhile, saw haven-related buying of its own, gaining ground against other major rivals outside of the yen.

Stocks pointed lower early Monday, but only slightly, with the Dow Jones Industrial Average
DJIA,
+0.31%

and S&P 500
SPX,
+0.26%

paring earlier declines and trading at or near record territory after booking tandem all-time closing highs on Friday.

And it wasn’t just Afghanistan that got the blame for the modest aversion to risky assets. A round of lackluster data out of China and a continued rise in cases world-wide of COVID-19 caused by the delta variant of the coronavirus were also front and center.

Eye on Asia and the yen

So where could concerns sparked by the Afghanistan situation make themselves felt in financial markets?

The U.S. withdrawal from Afghanistan could underline long-running concerns about U.S. resolve to defend Taiwan from a potential attack by China, said Jane Foley, senior FX strategist at Rabobank, in a note.

While geopolitical factors have a tendency to ebb and flow from the headlines, there is a “strong chance” the newsflow regarding tensions with China could increase in frequency in coming years, she wrote.

“For the markets, one of the implications of U.S. foreign policy decisions with respect to Afghanistan is that fears regarding the might of China could also increase. This could be reflected in a stronger medium-term position for the [Japanese yen] than otherwise would be the case.”

At the same time, some policy watchers have argued that as painful as the Afghanistan collapse may be, the Biden administration is pivoting its attention to shoring up its commitments to traditional allies in Europe and Asia, including Japan.

While the Taliban’s rapid victories were a “humiliation” to President Joe Biden and the U.S., the “withdrawal from Afghanistan does not equate to a pullback from core US alliance commitments in Europe & Asia. It’s a brutal refocus in their favour,” tweeted Robin Niblett, director of Chatham House, a London-based international-affairs think tank.

If the U.S. were to see the role of the dollar or Treasurys tarnished, it would likely become apparent only over the course of several years or decades, with the inflection point clear only with the benefit of hindsight, analysts said.

Viable alternatives lacking

What’s more, for now there is little in the way of alternatives to U.S. assets. The euro, over the long run, may be the most viable rival, thanks to the eurozone’s independent regulators, reliable court systems and market institutions that give investors confidence, Smart said. But he noted that the euro-denominated debt market isn’t yet of the size and liquidity needed to meet the needs of global investors.

China has ambitions for a growing global role for the renminbi, which is on track to become much more important currency, Smart said. But it also has its limitations. It is hard to imagine that in periods of uncertainty or crisis that investors will seek safety in a system with a less predictable regulatory environment and a less transparent political environment, he said.

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