Final answer:
Dollarization is the process where a country adopts the U.S. dollar as its official currency wholly or partially. It is done to stabilize the local economy, reduce currency volatility, and sometimes to encourage foreign direct investment.
Step-by-step explanation:
The term dollarization refers to the process by which a country that is not the United States adopts the U.S. dollar as its official currency. This can happen in full, where a country entirely uses the dollar for all transactions, or in part, where the dollar is used alongside the local currency.
Dollarization is often considered by countries experiencing a depreciation of their own currency, which means their currency is weakening and becoming worth less in terms of other currencies. Ecuador, El Salvador, and Panama are examples of countries that have decided to dollarize. The reasons for adopting the U.S. dollar can range from seeking to reduce the instability of a floating exchange rate, where a country lets the market determine its currency's value, to encouraging foreign direct investment (FDI), typically manifested as owning more than ten percent of a firm or starting a new enterprise in another country. It can also be a strategy to gain more economic stability.