Friday, August 27, 2010
I have repeatedly pointed out that it is possible that the IMF’s special drawing rights (SDRs) will become the world’s reserve currency.
And as I noted in April 2009, there is some possibility that the “Bancor” will ultimately fill that role:
But you probably have not heard that:
China’s government has floated a variant of this idea, suggesting a currency based on 30 commodities along the lines of the “Bancor” proposed by John Maynard Keynes in 1944.
Indeed, the head of the China’s central bank wrote recently:
Though the super-sovereign reserve currency has long since been proposed, yet no substantive progress has been achieved to date. Back in the 1940s, Keynes had already proposed to introduce an international currency unit named “Bancor”, based on the value of 30 representative commodities. Unfortunately, the proposal was not accepted. The collapse of the Bretton Woods system, which was based on the White approach, indicates that the Keynesian approach may have been more farsighted. The IMF also created the SDR in 1969, when the defects of the Bretton Woods system initially emerged, to mitigate the inherent risks sovereign reserve currencies caused. Yet, the role of the SDR has not been put into full play due to limitations on its allocation and the scope of its uses. However, it serves as the light in the tunnel for the reform of the international monetary system.
Keynes proposed that the Bancor was to be fixed in terms of 30 commodities, of which one would be gold. The arguments for currency fixed on a basket of commodities was that it would stabilize the average prices of commodities, and with them the international medium of exchange and a store of value.
As China’s central banker said, the goal would be to create a 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”.
But Keynes’ Bancor proposal did not only entail pegging SDR’s to a basket of currencies:
He proposed a global bank, which he called the International Clearing Union. The bank would issue its own currency – the bancor – which was exchangeable with national currencies at fixed rates of exchange. The bancor would become the unit of account between nations, which means it would be used to measure a country’s trade deficit or trade surplus.
Every country would have an overdraft facility in its bancor account at the International Clearing Union, equivalent to half the average value of its trade over a five-year period. To make the system work, the members of the union would need a powerful incentive to clear their bancor accounts by the end of the year: to end up with neither a trade deficit nor a trade surplus. But what would the incentive be?
Keynes proposed that any country racking up a large trade deficit (equating to more than half of its bancor overdraft allowance) would be charged interest on its account. It would also be obliged to reduce the value of its currency and to prevent the export of capital. But – and this was the key to his system – he insisted that the nations with a trade surplus would be subject to similar pressures. Any country with a bancor credit balance that was more than half the size of its overdraft facility would be charged interest, at a rate of 10%. It would also be obliged to increase the value of its currency and to permit the export of capital. If, by the end of the year, its credit balance exceeded the total value of its permitted overdraft, the surplus would be confiscated. The nations with a surplus would have a powerful incentive to get rid of it. In doing so, they would automatically clear other nations’ deficits.
As FT Alphaville’s Izabella Kaminska reported recently, the IMF has recently floated the idea of SDR and perhaps ultimately Bancor as world reserve currency:
FT Alphaville missed this IMF paper when it first came out in April, 2010.
Authored by Reza Moghadam, director of the IMF’s strategy, policy and review department, it discusses how the IMF sees the International Monetary System evolving after the financial crisis.
In the eyes of the IMF at least, the best way to ensure the stability of the international monetary system (post crisis) is actually by launching a global currency.
And that, the IMF says, is largely because sovereigns — as they stand — cannot be trusted to redistribute surplus reserves, or battle their deficits, themselves.
The ongoing buildup of such imbalances, meanwhile, only makes the system increasingly vulnerable to shocks. It’s also a process that’s ultimately unsustainable for all, says the IMF.
***All in all, the IMF believes there has simply been too much reserve hoarding going on:
Reserve accumulation has accelerated dramatically in the past decade, particularly since the 2003-4. At the end of 2009, reserves had risen to 13 percent of global GDP, doubling from their 2000 level, and over 50 percent of total imports of goods and services. Emerging market holdings rose to 32 percent of their GDP (26 percent excluding China). Twenty-seven of the top 40 reserve holders, accounting for over 90 percent of total reserve holdings, recorded doubledigit average growth in reserves over 1999-2008.
- A d v e r t i s e m e n t
Holdings have also become increasingly concentrated, with over half the total held by only five countries. These numbers exclude substantial foreign assets of the official sector not recorded as reserves, including in sovereign wealth funds (SWFs), and yet invested in liquid, dollar denominated financial instruments, that have grown even more in recent years.1
Of course, in the first instance, the solution probably lies in closer collaboration between sovereigns, most likely via the more active use of such things as special drawing rights, says the IMF.
But in the end, a global currency makes the most sense, the paper concludes — especially since the SDR is currently just an accounting tool that draws on the freely usable currencies of member states , not an actual currency itself.
As they summarise:
48. From SDR to bancor. A limitation of the SDR as discussed previously is that it is not a currency. Both the SDR and SDR-denominated instruments need to be converted eventually to a national currency for most payments or interventions in foreign exchange markets, which adds to cumbersome use in transactions.
And though an SDR-based system would move away from a dominant national currency, the SDR’s value remains heavily linked to the conditions and performance of the major component countries. A more ambitious reform option would be to build on the previous ideas and develop, over time, a global currency. Called, for example, bancor in honor of Keynes, such a currency could be used as a medium of exchange–an “outside money” in contrast to the SDR which remains an “inside money”.
But before you get ready to burn your fiat currency, it’s not actually a turnaround the IMF sees being executed any time soon.
As they conclude:
It is understood that some of the ideas discussed are unlikely to materialize in the foreseeable future absent a dramatic shift in appetite for international cooperation.
However, in a possible indication of how seriously the SDR is being taken, the U.S. Postal Service is quoting SDR to dollar conversion rates:
- Convert the U.S. dollar amount to the special drawing right (SDR) value and enter it in the SDR value block. For example:
(Here is the original web page, without highlighting.).
A search of the U.S. Postal Office website shows that – as of April 2008 – the relevant web page did not have any reference to SDRs. The most recent revisions to this web page were made on July 30, 2010. However, I cannot tell whether the references to SDRs were added in the most recent July revision, or in a previous edit.
I am not implying that this is nefarious. I’m not entirely sure what this means, but – as far as I can tell – no other currencies other than SDRs and the U.S. dollar are mentioned in this section of the Postal Service website. At the least, it is interesting.
The Swedish postal service is also purportedly giving SDR conversions.