Currency Wars_ The Making of the Next Global Crisis - James Rickards [118]
Multiple Reserve Currencies
A country’s reserves are something like an individual’s savings account. An individual can have current income from a job and have various forms of debt, yet still maintain some savings for future use or a rainy day. These savings can be invested in stocks and commodities or just left in the bank. A country has the same choices with its reserves. It can use a sovereign wealth fund to invest in stocks or other asset classes, or it can keep a portion in liquid instruments or gold. The liquid instruments can involve bonds denominated in a number of different currencies, each called a reserve currency, because countries use them to invest and diversify their reserves.
Since Bretton Woods in 1944, the dollar has been by far the leading reserve currency; however, it has never been the sole reserve currency. The IMF maintains a global database showing the composition of official reserves, including U.S. dollars, euros, pounds sterling, yen and Swiss francs. Recent data show the U.S. dollar comprising just over 61 percent of identified reserves, while the next largest component, the euro, weighs in at just over 26 percent. The IMF reports a slow but steady decline for the dollar over the last ten years; in 2000 the dollar comprised 71 percent of total identified reserves. This decline in reserve status has been orderly, not precipitous, and is consistent with the expansion of trade between Europe and Asia and within Asia itself.
The continuation of the trend toward a diminished role for the dollar in international trade and the reserve balances begs the question of what happens when the dollar is no longer dominant but is just another reserve currency among several others? What is the tipping point for dollar dominance? Is it 49 percent of total reserves, or is it when the dollar is equivalent to the next largest currency, probably the euro?
Barry Eichengreen is the preeminent scholar on this topic and a leading proponent of the view that a world of multiple reserve currencies awaits. In a series of academic papers and more recent popular books and articles, Eichengreen and his collaborators have shown that the dollar’s role as the leading reserve currency did not arise suddenly in 1944 as the result of Bretton Woods, but was actually achieved as early as the mid-1920s. He has also shown that the role of leading reserve currency shifted between the dollar and pounds sterling, with sterling losing the lead in the 1920s but regaining it after FDR’s dollar devaluation in 1933. More broadly, the evidence suggests that a world of multiple reserve currencies is not only feasible but has occurred already, during the course of Currency War I.
This research has led Eichengreen to the plausible and fairly benign conclusion that a world of multiple reserve currencies, with no single dominant currency, may once again be in prospect, this time with the dollar and euro sharing the spotlight instead of the dollar and sterling. This view also opens the door to further changes over time, with the Chinese yuan eventually joining the dollar and euro in a coleading role.
What is missing in Eichengreen’s optimistic interpretation is the role of a systemic anchor, such as the dollar or gold. As the dollar and sterling were trading places in the 1920s and 1930s, there was never a time when at least one was not anchored to gold. In effect, the dollar