In simple terms, when foreign currencies are used for transactions in the home country instead of their currency, this phenomenon is called dollarization. 

This probably means a weakening of home currency as compared to dollar rates, and therefore people find dollar transactions cheaper. 

This means that purchasing power of the home currency has declined whereas the dollar can revive the purchasing power. 

The situation of dollarization happens in any specific country due to various reasons, the major reason could be inflation and not just inflation but sometimes more dangerous hyperinflations. 

Inflations reduce purchasing power, which means if in X currency one could buy 5 pencils, now in same X currency you get 2 pencils. 

This can even happen due to a lack of stability in political powers, or war-like situations prevailing inside or around the country. 

The first question that arises is why only US dollars are generally used? 

The answer to this is simple, more stable currency less uncertainty and therefore more trusted transactions. 

There can be informal dollarization where the population itself uses dollars for transactions on their wish. 

For example, let’s assume that in jail when one prisoner wants his work to be done, he approaches the other prisoner. The bet on cigarettes and prisoner 1 gives 5 cigarettes to prisoner 2 in exchange for supposing room cleaning. Here the catch is that in jail, legally it is not allowed to exchange work roles, but now trade in terms of cigarettes allows making this exchange possible. It is an informal way of using cigarettes as a medium of transaction for services. 

Whereas there can be formal dollarization when government legally adopts dollars as working currency for their country.

A real-life example of official dollarization can be zimbabwe, which declared dollarization due to hyperinflation in 2009, they used several currencies to substitute home currency as a part of dollarization. 

The world is going towards dollarization rapidly, the only big reason is high inflation rates in developing economies that possess a wide income inequality gap.

During the era of the great depression when inflations were at their peak, oil prices were at the all-time skyline, many developing economies were forced to move into more stable currency and dollarization was happening. 

The core stats can tell you that US dollars are the majorly used currency in the world. This happens due to the stability and efficient economic performance of its origin country.

 As the American economy is evergrowing, dollars are backed up by growth, therefore, volatility reduces and so does the risk of inflationary pressures reduces. 

These given stats are for the year 2021, which clearly shows how US dollars are used widely for transactions all over the world.

 Similarly few other strong currencies like EUR and JPY are also used widely by the world population making it evident that currency substitution is happening in the world.  

This number is increasing year by year, and therefore gives clear signals of the dollarization of the world economy. 

The dollarization phenomenon is affected by a lot of factors like inflation, exchange rates, reserves of countries, fiscal deficits, the efficiency of governments, GDP growth rates, unemployment and savings mobility into investments. 

How does dollarization impacts the world economy?

What drives more dollarization? 

First and foremost is the capital mobility that comes with world economies being open to globalization. 

This means trading anytime anywhere and even investing in other economies. 

The mobility of trade and capital requires foreign currency and therefore increases currency substitution. 

As the most used and accepted currency is US dollars, this means that as globalisation increases demand for dollars increases. A very interesting point to observe is that even when the Fed increases the supply of dollars in the market, still the price of dollars in the currency market stays at the level. This is due to the huge dollarization impact.

Therefore more dollarization is happening in the international monetary systems. 

Now here is the catch, since weak economies are already in trauma, they see dollarization due to the trauma. Whereas better countries see dollarization due to import-export bills.

This together increases the already increased demand for dollars as compared to other currencies. 

Now again, this has more adverse impacts on the already weak currency. They tend to worsen their position more and the cycle of inflation and economic stability starts again. 

Also as the process means more growth of the US economy and currency, capital mobility will see high investments in stable dollars often called the “greenback” of the world. 

Given this, income disparity can increase over time due to the dollarization of the world, accumulating wealth and prosperity in one way. 

Pros and cons of dollarization 

Pros of dollarization for the global economy:-

1. In the case of full dollarization, the need for different currencies and exchange rates gets eliminated. This can be an incentive to invest without partiality and give better opportunities. Also, more stability and less volatility would be ensured in capital markets. 
2. dollarization contributes to the strengthening of the global economy because it facilitates the integration of economies.

Cons of dollarization for the global economy:-

1. Countries lose control over monetary aspects of the economy and therefore have very less impact on changing the current traumas prevailing. Printing of home currency remains of no use if dollarization happens and therefore market power of other weak economies declines further. 
2. As discussed above capital mobility will flow in stable currency and therefore investment prospects for other currencies will decline significantly. As we know driving growth is always a function of investment, we cannot sustain growth for the long run if complete dollarization is allowed. 

Conclusion 

Here we are, this debatable topic is very confusing as different economists will consider different facts to support or reject the dollarization utility or devastation. 

Knowing that the growth path for the world is to work and cooperate, will always be the first thing to consider.

Disintegrating the word is dangerous for the balanced growth path for all economies.