Comments on: More thoughts on the switch from dollars as reserve currency

By: Edward Harrison

Edward Harrison — Wed, 25 Mar 2009 15:38:00 +0000

Smoody, that’s a good idea. I will do that. Cheers.

By: smoody

smoody — Wed, 25 Mar 2009 15:36:39 +0000

A multi-currency reserve system is not a reserve system at all. Mssrs Putin and Nazarbayev should probably stick with politics and leave central banking to, well, others. The Chinese proposal, however, deserves discussion and elaboration along the lines of Paul Davidson’s paper. (You might want to re-post Davidson’s piece, Ed.)

By: aitrader

aitrader — Wed, 25 Mar 2009 11:43:54 +0000

L’argent papier finit toujours par retourner à sa valeur intrinsèque, c’est a dire zéro.
(“Paper money always ends up returning to its intrinsic value; that is, zero.”)

– Voltaire

The fuse was lit in 1971 when Nixon removed the intrinsic value of gold to back the dollar, hence backing of all global currencies. And it’s about to explode.

The global financial community is punch-drunk with the 38 year success of a pure fiat currency. It would behoove those that seek to replace it with yet another fiat alternative to tease apart the reasons for that historically amazing longevity. Centralized government control of the dollar and an economy that dwarfed its rivals by an order of magnitude are a couple reasons that come to mind. Historically cheap food and energy are a couple of others.

The French experience under John Law, whose monetary system based on derivatives resembles the current one to a marked degree, will be viewed in retrospect as an obvious example of the eventual outcome of the current fiat money experiment. In this case history not only rhymes, it is repeating itself.

The existence of multiple fiat “reserve” currencies will result in nothing other than the collapse of the system as a whole. In the midst of a downturn looking more and more like a global depression and with cheap energy on a plateau and possibly a decline, a worse time for an yet another fiat experiment is hard to imagine.

By: Edward Harrison

Edward Harrison — Wed, 25 Mar 2009 11:43:19 +0000

Good comments here all around. I agree with the general view that we are NOT going to see the dollar replaced any time soon. This is posturing on the part of a senior official that has not even been echoed by Premier Wen. Over time, I do think the dollar’s role as the only reserve currency will diminish and that is dollar bearish, but this is a longer-term view.

As to how the posturing plays out is anybody’s guess. Because I expect a cyclical rebound here, I imagine the worst-case scenarios of threats and protectionism may be off the table. But, if we relapse in the summer/fall due to massive writedowns (which I foresee) on bank credit card and CRE exposure, we should expect populist sentiment to incite protectionist responses from both sides.

By: Glen

Glen — Wed, 25 Mar 2009 11:28:05 +0000

Ed, don’t believe there’s an immediate ‘threat’ to change the US$ reserve currency though there is growing debate over how the rest of the world sees the participation and use of the US$ in the global environment given the actions of the Fed and banking system – read: worried. Given that the Fed actions are of a self centred nature, China has every right to express concern over the value of the US$ given their extensive holdings. No one single nations currency should dominate the world given the now that one nations currency is essentially worthless.

By: aitrader

aitrader — Wed, 25 Mar 2009 06:44:16 +0000

Although the suggestion for a new reserve came from the head of the Chinese Central Bank, it hasn’t received any backing from Chairman Wen. Until he mentions it the suggestion for a new reserve is just posturing on the part of an official rather than a serious shift in policy.

What I find more interesting is that this essay was published after the G20 meeting where the Russians presented a paper pushing for a new reserve currency. The Chinese initially rejected the idea but obviously it did gain some traction.

A Russian paper submitted at the recent G20 meeting along with Kazakhstan’s recent proclamation that the US dollar reserve is illegal preceded Zhou’s essay. There seems to be something afoot here. Western Europe will not likely go along but at the very least this could lead to a splintering of trading blocks with some following into a new potential reserve currency alternative. I would suggest we focus on energy as the leverage to force a new reserve into play.

Russia’s moves to create a natural gas cartel are the tell that I believe will be the first serious step to a new reserve alternative.

Once we have multiple fiat reserve currencies the lynchpin holding the current floating fiat currency system together will be gone. This is uncharted territory. The actors will inevitably succumb to the temptation to manipulate their favored reserve to primacy over the others. This could critically destabilize the whole system – and will in my opinion.

Dollar as world’s only reserve currency is illegal, Kazakhstan president says

Russia wants to start debate on new reserve

Gazprom producing 25% less gas

By: smoody

smoody — Tue, 24 Mar 2009 16:27:33 +0000

First, the US is not exaggerating when it asserts that foreign central bank purchases of US Treasuries interfered with (if not defeated) the Fed’s monetary policy in 2004. See Roubini and Setser, Federal Reserve Papers 2005. See Greenspan’s reference to the event in his inaptly named book. Between 2000 and 2007 (inclusive), foreign central bank reserves increased by USD 4.4 trillion while marketable US Treasuries increased by (only) 1.5 trillion. (China, at the time, happened to be buying longer dated maturities, of which readers will recall there were relative few.)

Second, the euro is not a candidate to become the world’s next reserve currency. Were it, it would have done so by 2004. As a reserve currency, the euro has shortcomings–most notably the lack of unified euro-denominated debt in which foreign central banks can invest accumulated reserves. Who wants to own Portuguese, Italian, Greek or Spanish paper? Apparently not China.

Last, the Chinese proposal deserves serious consideration if the world is still bent on globalization. Keep in mind that since 1998 the ‘free world financial system’ has added at least 25 convertible currencies, each with its own exchange rates and interest rates together servicing a total of some 2.7 billion citizens of various lands. The ‘free world financial system’ was designed in 1944 to service the trade and international finance needs of the post-war non-communist financial community. The last major modification to the system occurred in 1971 when Nixon slammed the gold window shut.

None of the foregoing makes an argument–bullish or otherwise–about the dollar or the euro. Those arguments are short term sentiment issues. The Chinese proposal is grist for the long term mill. One would want to hear it thoroughly discussed by the G-20.