FX - Call For New Reserve Currency
FX - Call For New Reserve Currency: China’s latest call to replace the U.S. dollar as the international reserve currency. Soon after this groundbreaking announcement, Indonesia, Malaysia and Thailand quickly came out in support of China’s call for a new global currency to insulate the world from a deep recession in the United States.
Russia soon followed with a proposal of its own calling for a conference to draft new international agreements on global monetary and financial policies, including a new global accounting unit or a new global currency. Even the new U.S. Treasury Secretary said it sounded like a good idea, but quickly corrected himself to assure the markets that the U.S. dollar is still the one and only reserve currency.
“No, this new reserve currency is NOT the Amero.” Several readers wrote us asking for more details about this new currency. For starters, readers wanted to know: Is this about the Amero? Not, hardly.
What China is suggesting is expanding the use of something called special drawing rights (SDRs). The International Monetary Fund first introduced these SDRs back in 1969. They issued these drawing rights to support the Bretton Woods fixed exchange rate regime, which collapsed in the 1970s.
SDRs’ value is based on a basket of four currencies, the U.S. dollar, yen, euro, and British pound. China has proposed expanding this basket to include the currencies of all major economies. Countries would entrust a portion of their SDR reserves to the IMF.
The value of these SDRs would float with the broad basket of these currencies, and the SDRs would eventually replace existing reserve currencies.
Obviously, introducing this new global currency would be devastating for the dollar. Countries, who are now obliged to invest a majority of their currency reserves into the U.S. dollar to pay for basic items like oil, would no longer have to buy dollars. Meanwhile the U.S. treasury market, where much of these reserves are parked, would also suffer.
This Proposal Says Something About China. It’s worth noting that this proposal would require unprecedented cooperation among global trading partners. This means that it’s not an immediate threat to the U.S. dollar (although of course, it affected the dollar’s price last week). Not to mention, the U.S. is going to rally support to fight it. But it is something to keep an eye on, as it was met with a surprising amount of support.
I don’t think it is any coincidence that the timing of this proposal by China coincides with the upcoming G20 meeting. China has been happy to grow their economy while mostly maintaining a lower profile at most of these economic summits.
It now looks like China will be demanding a more prominent seat at the table. And justifiably so, as China recently overtook Germany to become the world’s third largest economy.
China also holds more than a few U.S. Treasuries, giving them even more power at the table. The suggestion to replace the reserve currency was definitely a shot aimed at the big dog on the porch, and the U.S. isn’t in the best shape to defend itself right now.
Source: FX University Daily
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