March 23, 2009
The U.S. Is Losing Its Reserve Currency Privilege
The French president Charles De Gaulle once called the reserve currency status of the U.S. dollar an "extraordinary privilege". Part of the privilege is that the U.S. can borrow in its own currency and later pay back the debt in its own currency even when the dollar by then decreased in value.
China and others are now pressing to end that U.S. privilege.
In 1965 De Gaulle threatened to take the Franc back from a dollar reserve covered currency to a gold reserve status. At that time the U.S. had a persistent trade deficit, small in today's terms, and De Gaulle feared the U.S. would devalue the then gold backed dollar. That indeed happened and when in 1971 Nixon unilaterally stopped the direct convertibility of the U.S. dollar to gold.
The same fear De Gaulle had is again increasing around the world and a new attempt is now made to relieve the dollar of its privileged role. But this time the attackers on the dollar's reserve status are much more powerful than in 1965 when only France and Spain were the troublemakers.
The U.N. Commission of Experts on International Financial Reform will soon recommend a new reserve standard:
Persaud said the panel had been looking at using something like an expanded Special Drawing Right, originally created by the International Monetary Fund in 1969 but now used mainly as an accounting unit within similar organizations.
The SDR and the old Ecu are essentially combinations of currencies, weighted to a constituent's economic clout, which can be valued against other currencies and indeed against those inside the basket.
A new reserve currency was also discussed at a recent meeting of the BRIC countries, Brazil, Russia, India and China:
The Russian source said Moscow was aware that the emergence of the new global currency would not happen overnight and said its goal was to initiate a discussion about it at the G20 summit in London on April 2.
The source said that India did not object to the discussion but was not prepared to take the lead. The source said South Korea and South Africa backed the idea, while developed nations were not "allergic" to it.
Today the Vice Governor of the People's Bank of China was send out to assure the world that China would, for now, continue to buy treasuries. But that was likely only to cover for a quite revolutionary speech his boss Zhou Xiaochuan gave today. China Daily reports:
China's central bank chief on Monday proposed a sweeping overhaul of the global monetary system, outlining how the dollar could eventually be replaced as the world's main reserve currency by the Special Drawing Right (SDR).
From the speech:
While benefiting from a widely accepted reserve currency, the globalization also suffers from the flaws of such a system. The frequency and increasing intensity of financial crises following the collapse of the Bretton Woods system suggests the costs of such a system to the world may have exceeded its benefits. The price is becoming increasingly higher, not only for the users, but also for the issuers of the reserve currencies. Although crisis may not necessarily be an intended result of the issuing authorities, it is an inevitable outcome of the institutional flaws.
The desirable goal of reforming the international monetary system, therefore, is to create an international reserve currency that is disconnected from individual nations and is able to remain stable in the long run, thus removing the inherent deficiencies caused by using credit-based national currencies.
This HUGE! China will propose the new world 'currency' with reserve status, in fact a basket of major currencies as defined by the IMF Special Drawing Rights, at the G20 meeting on April 2.
It will take a few years until a full fledged SDR based system will become functional. The U.S. and the UK will likely fight against this. The Euro based countries will mostly be indifferent. For China this is now a major official policy goal. With BRIC pressing for a new reserve system and support from others medium weight countries like South Korea and South Africa the new initiative has a lot of momentum.
So far the U.S. could borrow cheaply and pay back less in real value than the original loan. That privilege is now going away. The trillions the U.S. currently needs to borrow from abroad will have to be payed back in full. That is a major change in its global power status and will seriously decrease its influence in international policy questions.
Posted by b on March 23, 2009 at 12:56 PM | Permalink
This is great news. Anything that weakens the American empire must be a good thing. Plus, there is no reason for any one country to be in a privileged state --- let all be equal.
Posted by: Buckaroo | Mar 23, 2009 1:13:40 PM | 1
The frequency and increasing intensity of financial crises following the collapse of the Bretton Woods system suggests the costs of such a system to the world may have exceeded its benefits. ... Although crisis may not necessarily be an intended result of the issuing authorities, it is an inevitable outcome of the institutional flaws.
We dug our own grave. . .
Posted by: Russ Wellen | Mar 23, 2009 1:30:47 PM | 2
Stop the (dollar printing) presses!
After last week's Chinese comments and the Fed purchase of $300+ billion in agency debt, you can see how this is unfolding. An end to the force-feeding to the world of US shit. China is developing a strategy to protect its US$ holdings while easing off on purchases.
Without cheer leading for any of these parties, it's an interesting jujitsu economic match similar to Putin's foreign policy moves vis a vis the US. More March Madness.
Posted by: biklett | Mar 23, 2009 1:53:07 PM | 3
Posted by: annie | Mar 23, 2009 4:12:58 PM | 6
The last time China decoupled from USD, they got hammered by currency speculators.
Same will happen with France, despite their pomposity and what can only be called
theatrics. The USD continues to take a gold hammering to the forehead by the Fed
Fharoahs and their naked short seller cabals, but nothing changed, USD is smooth
sailing compared to the AUD, NZD or GBP. Gold has already shrunk in its foreskin.
Your worries are more immediate. Our 2008 income was +16% due to a good Xmas sale,
but taxes were up more than +30%, and watch out for AMT! We were *not* above the
Obama threshold. May be why Obama was laughing 'gallows humor', Treasury, IRS and
Fed work grift to indenture Americans as Perpetual Peonage Day Labor Rental Class.
Call me Populist, but I wouldn't let either Bernanke or Geithner park my car.
Posted by: Tin Tin | Mar 23, 2009 7:57:53 PM | 7
what can only be called theatrics.
Posted by: annie | Mar 23, 2009 9:11:58 PM | 8
The dollar has been in constant free-fall since Nixon took the US off Bretton Woods. The massive devaluations have caused much pain.
I doubt though that this will be the cycle for the dollar to fall off reserve currency status. The Keynesian medicine being applied to the economy will heal it for the short run. But if the US regulatory system is not ungraded to some extent boom and bust will continue.
The US and Britain will fight a new reserve currency because they can game the current system and ruin anyone they want. A new currency with a new worldwide regulatory framework that limits speculation would hurt the current financial regime. Currently hedge funds can drive a market or currency into nothing. The US and Britain will kick and scream to not let the system end. As you can see with the new Giethner plan all it does is patch the current system as Krugman says. This has Wall Street pissing all over themselves.
The Chinese still don't have enough clout to push this agenda. Even though the US has lost credibility, the countries named above still don't have enough influence to fight the neo-liberal economic agenda. We need one more republican president before it will happen and if the US press and Wall Street have their way Obama will be a one termer and they will be the hand of fate that provides for their own doom.
The next two to four years will be interesting. But, Obamas current economic agenda, if fully passed, would straighten the US out for a while. The new Giethner plan is to apply salve to Wall Street while he tries for his larger agenda. The question is will Wall Street and Congress let it happen or will they shoot themselves?
Posted by: jdp | Mar 23, 2009 10:03:24 PM | 9
tin tin should do a better copy/paste, it's kinda obvious, dude
Posted by: rudolf | Mar 23, 2009 10:10:56 PM | 10
the Chinese do not have enough clout? you must be joking. who do you think financed US wars? it was not done by taxes. The US has been buying more than selling for a long time. on credit. of course the Chinese still think it a good investment. but who in this relationship has the power, the creditor or the debtor? when the debtor needs more money and the creditor can protect themselves militarily?
Keynes is something the ruling classes only do when they are forced to.
Posted by: outsider | Mar 24, 2009 12:51:09 AM | 11
Financial Times: China calls for new reserve currency
Analysts said the proposal was an indication of Beijing’s fears that actions being taken to save the domestic US economy would have a negative impact on China.
“This is a clear sign that China, as the largest holder of US dollar financial assets, is concerned about the potential inflationary risk of the US Federal Reserve printing money,” said Qu Hongbin, chief China economist for HSBC.
Although Mr Zhou did not mention the US dollar, the essay gave a pointed critique of the current dollar-dominated monetary system.
Posted by: b | Mar 24, 2009 2:01:29 AM | 12
The steps you are taking to implement the change of currency is excellent and good luck.
Posted by: brainlara | Mar 24, 2009 3:28:57 AM | 13
@ 11. Read my post. Currency traders still have to much invested in the current system. If China pushes to hard the US could accelerate what Chinas worried about, printing more money. The US will just hand them worthless dollars. This new reserve currency was brought up before G-8 and G-20 and its fell flat. The US has talked it down.
We will see, but I still see another economic cycle and if the democrats can give the neo-liberal model some credibility as Bill Clinton did, it will live a little longer life. Until China can turn their people into the mass consumers of their own goods, they still need the US.
Posted by: jdp | Mar 24, 2009 4:29:33 AM | 14
Dear hearts, when the US went off the gold standard in 1975, it was still, to some degree not really a fiat currency -- in several ways, the $ is backed by plutonium and military hardware
Posted by: Chuck Cliff | Mar 24, 2009 8:53:22 AM | 15
Chuck Cliff #15--
Through the middle part of the 20th century the dollar was, as a practical matter, backed by US industrial assets. This came about due to the political decision to use government intervention to run a Capitalist market economy without large booms and busts. Gold was still used in international transactions, but really had nothing to do with the strength of the dollar, and had not had anything to do with it since FDR outlawed possession of gold in the 1930s.
About 1970 US oil production peaked, and this threw the American economy into the bumpy period of stagflation, as oil shortages strangled industrial activity. Stagflation did not get solved until Reagan cut a deal with the Saudis in the early 1980s, making them America's ultimate banker, and converting the dollar from a base in industrial assets to a base in Saudi oil.
This fell apart in 2005 when Saudi light sweet crude production peaked. The dollar is now based on nothing but the full faith and credit of the US Government, which would not be a change except that the US Government now stands faithless and without resources. Or, as you elegantly put it, it stands on plutonium and military hardware. But these are not assets, merely threats, and will decline in effectiveness with each war the US loses. Thus dollar decline can be slowed but not stopped. And a sliding currency takes on a momentum of its own (think of Zimbabwe) that comes to obliterate all other consideations, including military hardware.
Posted by: Gaianne | Mar 25, 2009 12:14:41 AM | 16
IMF drawing rights do not a currency make.
China can stop purchasing US Treasuries and Agencies any time it likes. China could allow the RNB to escape its borders and then demand or at lest suggest it be used for payment to its exporters.
China played this dollar recycling game with their eyes wide open. They can end it anytime they like. They fed our addiction for cheap credit in a sort of modern version of the Opium trade, in reverse. I half think it serves them right if they get stiffed by the US Treasury someday.
Posted by: rapier | Mar 27, 2009 12:26:13 AM | 17