What determines the strength of a currency?

A currency’s strength is determined by the interaction of a variety of local and international factors such as the demand and supply in the foreign exchange markets; the interest rates of the central bank; the inflation and growth in the domestic economy; and the country’s balance of trade. Taking all factors into consideration, the currency strength can be evaluated in three dimensions:

• Value: the relative purchasing power for goods and services in comparison to foreign currencies
• Utility: the relevance as a financial valuation and exchange device in foreign economies
• Reserve: the acceptability in international trade, driving foreign central banks to hold reserves

As the local production activities add further value to the country’s economy, higher purchasing power encourages spending. The surge in the supply and demand stimulates import and export, flourishing the international trade volumes.

The national currency gains utility in the trade-partner countries, which, in turn, drive their central banks to create reserves for it. Such acceptability enables commerce via a direct exchange of currencies without the mediation of a stronger currency like the U.S. Dollar.

It also provides room for manoeuvre in case a trading partner’s currency value fluctuates due to external circumstances. As a result, the national currency strengthens in the money markets and gains value in the Forex pairs.

The U.S. Dollar is currently considered as the strongest currency in the world. The U.S. economy has the largest consumer market, and the USD serves as the primary trade and reserve currency all around the globe.

Around 60% of the world’s central bank reserves, 40% of debt, 90% of forex trades, and 80% of global trade is denominated in dollars. When the world experiences a crisis, everyone looks to the U.S dollar as a shelter from risks. However, many countries and foreign companies borrow in U.S dollars and earn revenue or taxes in their domestic currencies, therefore dollar strength increases default risk.

https://www.avatrade.com/education/trading-for-beginners/currency-strength#:~:text=A%20currency's%20strength%20is%20determined,the%20country's%20balance%20of%20trade

Is a strong currency a sign of a strong economy? Are we overlooking the risks of a strong currency?

1.   If currency starts appreciating too fast, foreigners will start buying local stocks or bonds not because they believe in the economy, but because they believe the rising currency will increase the US dollar value of those investments.  

2.  For a while this bet is self-fulfilling, as foreign money continues to drive up the value of the local currency.

3.  Eventually, though, an expensive currency makes the country's exports too pricey to compete in global markets.  

4.  The economy stalls, the currency crashes, and the country will be poised to grow only when it stabilizes again, at a competitive value.  

Summary

A cheap currency is good.  A currency that makes local prices feel affordable will draw money into the economy through exports, tourism and other channels.

An overpriced currency will encourage both locals and foreigners to move money out of the country, eventually sapping economic growth.

Successful nations feel cheap, at least to foreign visitors.  (The cars of some developed countries are so cheap relative to those of Malaysia.  The food and personal wears of some developed countries are so cheap relative to their incomes and also for visiting Malaysians too.)

The converging global economy or "Fusion Economy"

U.S. dollar as the world's main reserve currency

Almost a third of foreign central banks hold the U.S. dollar as their main reserve currency.  

• The U.S. enviable position as the owner of the world's most sought-after currency, has provided many advantages over the years, not the least of which is having the ability to easily borrow abroad to finance wars and deficit spending at home.  
• The disadvantage is that countries with reserve currencies tend to run trade account deficits, mainly because the higher value of their currencies makes their products more expensive to export.  

These persistent trade deficits, led the U.S. president in 2018 to begin a series of trade wars, hoping to keep the benefits of holding the world's reserve currency while using the threat of global trade wars to eliminate the deficits, come what may..

An isolated event in one part of the world can have an immediate effect on markets worldwide.

Global investors who are losing money in one sector often tend to sell investments in another sector, or another part of the world, to cover their losses.  

• When stocks fall sharply in New York or London, emerging market funds from Brazil to India can decline sharply as investors rush to sell their shares abroad in order to raise needed cash to pay their debts at home.  
• For no fault of their own, markets - especially those in developing countries - can be punished for something over which they have no control.

It works in the opposite way for countries that have currencies that are considered safe havens in time of economic turmoil.  

• The Japanese yen, the Swiss franc, and the U.S. dollars, for example, tend to benefit enormously when markets crash.  
• Even though it was the U.S. economic meltdown that caused the worldwide crash leading to the Great Recession in 2007, the first reaction of most global investors was to buy American dollars.

To anticipate a currency crisis or recovery, follow the locals

The feel of the currency is the simplest real-time measure of how effectively a country can compete for international trade and investment.

"The currency feels too expensive"

If a currency feels too expensive, a large and sustained increase in the current account deficit can result, and money will start to flow out of the country.  

The longer and faster a current account deficit expands, the more risk there is of an economic slowdown and a financial crisis.  

Traditionally, that warning light flashed when the current account deficit had been growing at an average rate of 5% of GDP for five years.  

But the recent deglobalization of banking has made it more difficult to finance current account deficits, so the new red line may be around 3%.

Beginning or the end of currency trouble, follow the locals

To spot the beginning or the end of currency trouble, follow the locals.  They are the first to know when a nation is in crisis or recovery, and they will be the first to move.  If the local millionaires are fleeing, so should you.

Once a crisis begins, watch for the current account to bounce back to surplus, which usually means that a cheap currency is drawing money back into the country.  It helps if the financial environment is stable, underpinned by low expectations of inflation, which further encourages investors to return.

Meddling by the government to artificially cheapen the currency

If the government tries to artificially cheapen the currency, markets are likely to punish this meddling, particularly if the country has substantial foreign debt or does not manufacture exports that can benefit from a devaluation.  

Cheap is good only if the market, not the government, determines the feel of a currency.

You Can't Devalue Your Way to Prosperity

A cheap currency is an advantage in global competition.  It might seem smart for national leaders just to devalue the currency.  But this is a form of state meddling that has proved increasingly ineffective.

Since the crisis of 2008, many nations have tried to improve their competitive position by devaluing currencies, but none have managed to gain an advantage.

The central banks of the United States, Japan, Britain and the Eurozone have pursued policies that effectively amount to printing money, in part as a way to devalue their currencies.  But each has achieved at best a brief gain in export share, because rivals quickly match each other's policies.

The rise in 2016 of Donald Trump, who keeps a hawkish watch on the moves of foreign central banks, made it increasingly difficult for any nation to devalue its currency without being called to account for it.

By 2019, many emerging countries had seen sharp currency depreciation, but with little boost to growth.  

• One reason was foreign debt; since 1996, in the emerging world, the debt owed by private companies to foreign lenders had more than doubled as a share of GDP, reaching 20% or more in Taiwan, Peru, South Africa, Russia, Brazil and Turkey.   For these countries, devaluation made it more expensive for private companies to service foreign debt, and forced them to spend less on hiring workers or investing in new equipment.

• Another factor that can derail devaluations is heavy dependence on imported food and energy.  In this case, a cheaper currency will make it more expensive to import these staples, driving up inflation, further undermining the currency and encouraging capital flight.  This is a recurring syndrome in nations like Turkey, which imports all its oil, but the problem is spreading.

• These days, even manufacturing powers are mere cogs in a global supply chain, relying heavily on imported parts and materials.  They thus find it harder to capitalize on a cheap currency because devaluation raises the prices they pay for those parts and materials.

A rare occasion when devaluation worked

China, in 1993, was one of the rare devaluations that worked.  

China had little foreign debt, it did not rely too heavily on imported goods, and its already strong manufacturing sector grew faster after Beijing devalued the renminbi.  

But this was an exception that proves the rule in general you cannot devalue your way to prosperity.

Devaluation is increasingly less likely to work

Moreover, devaluation is increasingly less likely to work, even in China, which has grown to command 13% of global exports, the largest share any economy has reached in recent decades.  It is just simply too big to expand much further and if it does devalue, others retaliate.  

In late 2015, China devalued the renminbi by 3%, and many emerging nations responded immediately, erasing any competitive gain that Beijing hoped to achieve.

China is also making increasingly advanced exports, which are less price sensitive and gain less from a cheap currency.  

In Korea, Taiwan, and China, technology and capital goods make up a rising share of exports.  

The more advanced the economy, the less of a boost it gets from devaluations.

Dollar to Hit 50 Yen, Cease as Reserve, Sumitomo Says

Dollar to Hit 50 Yen, Cease as Reserve, Sumitomo Says


By Shigeki Nozawa

Oct. 15 (Bloomberg) -- The dollar may drop to 50 yen next year and eventually lose its role as the global reserve currency, Sumitomo Mitsui Banking Corp.’s chief strategist said, citing trading patterns and a likely double dip in the U.S. economy.

“The U.S. economy will deteriorate into 2011 as the effects of excess consumption and the financial bubble linger,” said Daisuke Uno at Sumitomo Mitsui, a unit of Japan’s third- biggest bank. “The dollar’s fall won’t stop until there’s a change to the global currency system.”

The dollar last week dropped to the lowest in almost a year against the yen as record U.S. government borrowings and interest rates near zero sapped demand for the U.S. currency. The Dollar Index, which tracks the greenback against the currencies of six major U.S. trading partners, has fallen 15 percent from its peak this year to as low as 75.211 today, the lowest since August 2008.

The gauge is about five points away from its record low in March 2008, and the dollar is 2.5 percent away from a 14-year low against the yen.

“We can no longer stop the big wave of dollar weakness,” said Uno, who correctly predicted the dollar would fall under 100 yen and the Dow Jones Industrial Average would sink below 7,000 after the bankruptcy of Lehman Brothers Holdings Inc. last year. If the U.S. currency breaks through record levels, “there will be no downside limit, and even coordinated intervention won’t work,” he said.

China, India, Brazil and Russia this year called for a replacement to the dollar as the main reserve currency. Hossein Ghazavi, Iran’s deputy central bank chief, said on Sept. 13 the euro has overtaken the dollar as the main currency of Iran’s foreign reserves.

Elliott Wave

The greenback is heading for the trough of a super-cycle that started in August 1971, Uno said, referring to the Elliot Wave theory, which holds that market swings follow a predictable five-stage pattern of three steps forward, two steps back.

The dollar is now at wave five of the 40-year cycle, Uno said. It dropped to 92 yen during wave one that ended in March 1973. The dollar will target 50 yen during the current wave, based on multiplying 92 with 0.764, a number in the Fibonacci sequence, and subtracting from the 123.17 yen level seen in the second quarter of 2007, according to Uno.

The Elliot Wave was developed by accountant Ralph Nelson Elliott during the Great Depression. Wave sizes are often related by a series of numbers known as the Fibonacci sequence, pioneered by 13th century mathematician Leonardo Pisano, who discerned them from proportions found in nature.

Uno said after the dollar loses its reserve currency status, the U.S., Europe and Asia will form separate economic blocs. The International Monetary Fund’s special drawing rights may be used as a temporary measure, and global currency trading will shrink in the long run, he said.

To contact the reporter on this story: Shigeki Nozawa in Tokyo at snozawa1@bloomberg.net.

Last Updated: October 15, 2009 03:34 EDT

http://bloomberg.com/apps/news?pid=20601109&sid=a_A5nqmw9Dq8

Russia backs return to Gold Standard to solve financial crisis

Russia backs return to Gold Standard to solve financial crisis

Russia has become the first major country to call for a partial restoration of the Gold Standard to uphold discipline in the world financial system.

By Ambrose Evans-Pritchard

Last Updated: 8:23AM BST 30 Mar 2009

Arkady Dvorkevich, the Kremlin's chief economic adviser, said Russia would favour the inclusion of gold bullion in the basket-weighting of a new world currency based on Special Drawing Rights issued by the International Monetary Fund.

Chinese and Russian leaders both plan to open debate on an SDR-based reserve currency as an alternative to the US dollar at the G20 summit in London this week, although the world may not yet be ready for such a radical proposal.

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Mr Dvorkevich said it was "logical" that the new currency should include the rouble and the yuan, adding that "we could also think about more effective use of gold in this system".

The Gold Standard was the anchor of world finance in the 19th Century but began breaking down during the First World War as governments engaged in unprecedented spending. It collapsed in the 1930s when the British Empire, the US, and France all abandoned their parities.

It was revived as part of fixed dollar system until US inflation caused by the Vietnam War and "Great Society" social spending forced President Richard Nixon to close the gold window in 1971.
The world's fiat paper currencies have lacked any external anchor ever since. It is widely argued that the financial excesses and extreme debt leverage of the last quarter century would have been impossible - or less likely - under the discipline of gold.

Russia is a major gold producer with large untapped reserves of ore so it has a clear interest in promoting the idea. The Kremlin has already instructed the central bank of gradually raise the gold share of foreign reserves to 10pc.

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.

http://www.telegraph.co.uk/finance/financetopics/g20-summit/5072484/Russia-backs-return-to-Gold-Standard-to-solve-financial-crisis.html

Dollar Slams Up Against a (Great) Wall

Dollar Slams Up Against a (Great) Wall
by Robert Lenzner
Friday, March 27, 2009
provided by

The People's Bank of China flexes its muscle in call for a new reserve currency.

Move over Ben Bernanke. Step aside Tim Geithner. There's a new power in international finance: Zhou Xiaochuan, governor of the People's Bank of China, the $2 trillion central bank of China. It has the tools and the financial interests to be the new power player on the global financial stage.

Zhou Xiaochuan--better learn how to spell it and pronounce it--threw down the gauntlet this week at the Obama-Geithner-Bernanke financial regime. His remarks can only be interpreted as a slap in the face of U.S. policy during the severe financial crisis that has swept the world. His prescriptions are bound to be debated in London next week at the G-20 parley and for years to come.

Boldly stated, Zhou--backed by Russia, Brazil and India--wants to break the dollar's hegemony in global finance. In a paper grandly called "Reform the International Monetary System," Zhou has called for the creation of an international currency unit that he admits will require "extraordinary political vision and courage." He suggests that we start with a blend of the dollar, pound, yen and euro--the so-called Special Drawing Rights (SDR) created by the IMF in 1969 that borrowed a concept first recommended by famed economist John Maynard Keynes.

Zhou's provocative remarks come only days after Premier Wen Jiabao demanded U.S. action to safeguard China's holdings of U.S. bonds--some $740 billion of Treasuries and $600 billion of other debt.

"We have lent huge amounts of money to the U.S. [and] we are concerned about the safety of our assets," said Wen. Indeed, China has bought $200 billion of Treasuries while selling agency securities over the past six months. But it also lost about a third of its equity holdings, including $5 billion in the Lehman bankruptcy.

Zhou's rationale appears reasonable to Croesus. "A super-sovereign reserve currency not only eliminates the inherent risks of credit-based sovereign currency, but also makes it possible to manage global liquidity," writes Zhou. "This will significantly reduce the risks of a future crisis and enhance crisis management capability."

By the way, don't dismiss Zhou as just a voice in the wilderness. His plan for a global reserve currency is backed by multibillionaire trader and economic wiseman George Soros, as well as Martin Wolf, an influential columnist for the Financial Times. Geithner, queried at the Council on Foreign Relations on Wednesday, said he hadn't read Zhou's proposal, but praised his counterpart as "a very thoughtful, very careful, distinguished central banker." Geithner added that he was "quite open" to the suggestion of expanding the SDR's role.

Zhou has surprised the experts by suggesting that international financial institutions such as the International Monetary Fund should manage some nations' currency reserves. The IMF uses its funds to prop up nations in financial crisis. Expanding the SDR would give the IMF the potential to "act as a super-sovereign reserve currency" and to increase the IMF's resources, Zhou emphasized. "The scope of using the SDR should be broadened so as to enable it to fully satisfy the member countries' demand for a reserve currency," adds Zhou.

This would be a shocking change in a system where central banks maintain control over their reserves and many keep their operations entirely secret and non-transparent. Zhou makes a telling point when he insists that "the centralized management of part of the global reserve by a trustworthy international institution will be more effective in deterring speculation and stabilizing financial markets." In other words, Zhou is saying that the recent vicious meltdown might have been avoided if the world's financial system was not tied solely to the American dollar, the currency at the focal point of the global economy.

"For a country like China that prizes its sovereignty and to date hasn't even been willing to report the currency composition of its reserves to the IMF [something most other countries do], this would be a big step," says Brad Setser, a fellow of the Council on Foreign Relations and former Treasury official in the Clinton administration.

In a second address Thursday, Zhou took an even tougher whack at some American institutions and financial concepts. He blasted the way "the global financial system relies heavily on the external credit ratings for investment decisions and risk management." Having three U.S. ratings agencies dominate the world results in "a massive herd behavior at the institutional level. Moreover, the rating models for mortgage-related structured products are fundamentally flawed." All true. The massive write-downs across the globe were the result of these flaws in the American way of doing things.

Then, Zhou goes on to blame the American fair-value accounting system and especially the mark-to-market model for the intense market fluctuations and disorderly trading. Take that America. China described the "negative feedback loop" as the most toxic American export ever. Zhou also crowed about how China's "macroeconomic measures," including a massive stimulus program, have produced "some leading indicators pointing to recovery of economic growth, indicating that rapid decline in growth had been curbed."

Then, Zhou really stuck it to Obama-Geithner-Bernanke, as well as to Europe and Japan. "Facts speak volumes and demonstrate that compared with other major economies, the Chinese government has taken prompt, decisive and effective policy measures, demonstrating its superior system advantage when it comes to making vital policy decisions." Talk about gauntlet dropping.

Copyrighted, Forbes.com. All rights reserved.

http://finance.yahoo.com/banking-budgeting/article/106817/Dollar-Slams-Up-Against-a-Great-Wall;_ylt=AoJCjKtUf1TYF.q1mz7X1yBO7sMF

US backing for world currency stuns markets

US backing for world currency stuns markets
US Treasury Secretary Tim Geithner shocked global markets by revealing that Washington is "quite open" to Chinese proposals for the gradual development of a global reserve currency run by the International Monetary Fund.

By Ambrose Evans-Pritchard
Last Updated: 8:18AM GMT 26 Mar 2009

The dollar plunged instantly against the euro, yen, and sterling as the comments flashed across trading screens. David Bloom, currency chief at HSBC, said the apparent policy shift amounts to an earthquake in geo-finance.

"The mere fact that the US Treasury Secretary is even entertaining thoughts that the dollar may cease being the anchor of the global monetary system has caused consternation," he said.

Gold price spikes as dollar falls Mr Geithner later qualified his remarks, insisting that the dollar would remain the "world's dominant reserve currency ... for a long period of time" but the seeds of doubt have been sown.

The markets appear baffled by the confused statements emanating from Washington. President Barack Obama told a new conference hours earlier that there was no threat to the reserve status of the dollar.

"I don't believe that there is a need for a global currency. The reason the dollar is strong right now is because investors consider the United States the strongest economy in the world with the most stable political system in the world," he said.

The Chinese proposal, outlined this week by central bank governor Zhou Xiaochuan, calls for a "super-sovereign reserve currency" under IMF management, turning the Fund into a sort of world central bank.

The idea is that the IMF should activate its dormant powers to issue Special Drawing Rights. These SDRs would expand their role over time, becoming a "widely-accepted means of payments".

Mr Bloom said that any switch towards use of SDRs has direct implications for the currency markets. At the moment, 65pc of the world's $6.8 trillion stash of foreign reserves is held in dollars. But the dollar makes up just 42pc of the basket weighting of SDRs. So any SDR purchase under current rules must favour the euro, yen and sterling.

Beijing has the backing of Russia and a clutch of emerging powers in Asia and Latin America. Economists have toyed with such schemes before but the issue has vaulted to the top of the political agenda as creditor states around the world takes fright at the extreme measures now being adopted by the Federal Reserve, especially the decision to buy US government debt directly with printed money.

Mr Bloom said the US is discovering that the sensitivities of creditors cannot be ignored. "China holds almost 30pc of the world's entire reserves. What they say matters," he said.

Mr Geithner's friendly comments about the SDR plan seem intended to soothe Chinese feelings after a spat in January over alleged currency manipulation by Beijing, but he will now have to explain his own categorical assurance to Congress on Tuesday that he would not countenance any moves towards a world currency.

http://www.telegraph.co.uk/finance/economics/5050407/US-backing-for-world-currency-stuns-markets.html

A global economic order less dominated by the U.S. and other wealthy nations.

MARCH 24, 2009 China Takes Aim at Dollar Article

By ANDREW BATSON

BEIJING -- China called for the creation of a new currency to eventually replace the dollar as the world's standard, proposing a sweeping overhaul of global finance that reflects developing nations' growing unhappiness with the U.S. role in the world economy.

The unusual proposal, made by central bank governor Zhou Xiaochuan in an essay released Monday in Beijing, is part of China's increasingly assertive approach to shaping the global response to the financial crisis.

Mr. Zhou's proposal comes amid preparations for a summit of the world's industrial and developing nations, the Group of 20, in London next week. At past such meetings, developed nations have criticized China's economic and currency policies.

This time, China is on the offensive, backed by other emerging economies such as Russia in making clear they want a global economic order less dominated by the U.S. and other wealthy nations.

However, the technical and political hurdles to implementing China's recommendation are enormous, so even if backed by other nations, the proposal is unlikely to change the dollar's role in the short term. Central banks around the world hold more U.S. dollars and dollar securities than they do assets denominated in any other individual foreign currency. Such reserves can be used to stabilize the value of the central banks' domestic currencies.

Monday's proposal follows a similar one Russia made this month during preparations for the G20 meeting. Like China, Russia recommended that the International Monetary Fund might issue the currency, and emphasized the need to update "the obsolescent unipolar world economic order."

Chinese officials are frustrated at their financial dependence on the U.S., with Premier Wen Jiabao this month publicly expressing "worries" over China's significant holdings of U.S. government bonds. The size of those holdings means the value of the national rainy-day fund is mainly driven by factors China has little control over, such as fluctuations in the value of the dollar and changes in U.S. economic policies. While Chinese banks have weathered the global downturn and continue to lend, the collapse in demand for the nation's exports has shuttered factories and left millions jobless.

In his paper, published in Chinese and English on the central bank's Web site, Mr. Zhou argued for reducing the dominance of a few individual currencies, such as the dollar, euro and yen, in international trade and finance. Most nations concentrate their assets in those reserve currencies, which exaggerates the size of flows and makes financial systems overall more volatile, Mr. Zhou said.

Moving to a reserve currency that belongs to no individual nation would make it easier for all nations to manage their economies better, he argued, because it would give the reserve-currency nations more freedom to shift monetary policy and exchange rates. It could also be the basis for a more equitable way of financing the IMF, Mr. Zhou added. China is among several nations under pressure to pony up extra cash to help the IMF.

John Lipsky, the IMF's deputy managing director, said the Chinese proposal should be treated seriously. "It reflects officials' concerns about improving the stability of the financial system," he said. "It's interesting because of China's unique position, and because the governor put it in a measured and considered way."

China's proposal is likely to have significant implications, said Eswar Prasad, a professor of trade policy at Cornell University and former IMF official. "Nobody believes that this is the perfect solution, but by putting this on the table the Chinese have redefined the debate," he said. "It represents a very strong pushback by China on a number of fronts where they feel themselves being pushed around by the advanced countries," such as currency policy and funding for the IMF.

A spokeswoman for the U.S. Treasury Department declined to comment on Mr. Zhou's views. In recent weeks, senior Obama administration officials have sought to reassure Beijing that the current U.S. spending spree is a short-term effort to restart the stalled American economy, not evidence of long-term U.S. profligacy.

"The re-establishment of a new and widely accepted reserve currency with a stable valuation benchmark may take a long time," Mr. Zhou said. In remarks earlier Monday, one of his deputies, Hu Xiaolian, also said the dollar's dominant position in international trade and investment is unlikely to change soon. Ms. Hu is in charge of reserve management as the head of China's State Administration of Foreign Exchange.

Mr. Zhou's comments -- coming on the heels of Mr. Wen's musing about the safety of China's dollar holdings -- appear to be a warning to the U.S. that it can't expect China to finance its spending indefinitely.

The central banker's proposal reflects both China's desire to hold its $1.95 trillion in reserves in something other than U.S. dollars and the fact that Beijing has few alternatives. With more U.S. dollars continuing to pour into China from trade and investment, Beijing has no realistic option other than storing them in U.S. debt.

Mr. Zhou argued, without mentioning the dollar by name, that the loss of the dollar's de facto reserve status would benefit the U.S. by avoiding future crises. Because other nations continued to park their money in U.S. dollars, the argument goes, the Federal Reserve was able to pursue an irresponsible policy in recent years, keeping interest rates too low for too long and thereby helping to inflate a bubble in the housing market.

"The outbreak of the crisis and its spillover to the entire world reflected the inherent vulnerabilities and systemic risks in the existing international monetary system," Mr. Zhou said. The increasing number and intensity of financial crises suggests "the costs of such a system to the world may have exceeded its benefits."

Mr. Zhou isn't the first to make that argument. "The dollar reserve system is part of the problem," Joseph Stiglitz, the Columbia University economist, said in a speech in Shanghai last week, because it meant so much of the world's cash was funneled into the U.S. "We need a global reserve system," he said in the speech.

Mr. Zhou's idea is to expand the use of "special drawing rights," or SDRs -- a kind of synthetic currency created by the IMF in the 1960s. Its value is determined by a basket of major currencies. Originally, the SDR was intended to serve as a shared currency for international reserves, though that aspect never really got off the ground.

These days, the SDR is mainly used in the IMF's accounting for its transactions with member nations. Mr. Zhou suggested countries could increase their contributions to the IMF in exchange for greater access to a pool of reserves in SDRs.

Holding more international reserves in SDRs would increase the role and powers of the IMF. That indicates China and other developing nations aren't hostile to international financial institutions -- they just want to have more say in running them. China has resisted the U.S. push to make an immediate loan to the IMF because that wouldn't give China a bigger vote. Ms. Hu said Monday that China, which encourages the IMF to explore other fund-raising options, would consider buying into a bond issue.

The IMF has been working on a proposal to issue bonds, probably only to central banks. Bond purchases are one way for the organization to raise money and meet its goal of at least doubling its lending war chest to $500 billion from $250 billion. Japan has loaned the IMF $100 billion and the European Union has pledged another $100 billion.

—Terence Poon in Beijing, James T. Areddy in Shanghai, and Bob Davis and Michael M. Phillips in Washington contributed to this article.
Write to Andrew Batson at andrew.batson@wsj.com

http://online.wsj.com/article/SB123780272456212885.html

Geithner about-turn on dollar status shocks currency markets

Geithner about-turn on dollar status shocks currency markets

Sterling jumped more than a cent against a sharply falling dollar on Wednesday, with the greenback winded after US Treasury Secretary Timothy Geithner said he was "quite open" to China's suggestion of moving toward SDR-linked currency system, Reuters reported.

Last Updated: 2:52PM GMT 25 Mar 2009

Geithner about-turn on dollar status shocks currency markets
By 1408 GMT, the pound had jumped to a session high of $1.4725.

However, the dollar soon pared losses after the Treasury Secretary added that the dollar was likely to remain the world's reserve currency for a long time.

"The market is purely reacting to the Geithner comments and it's taken out a whole load of stops [in euro/dollar and cable]," a London-based trader said. "With a comment like that people just cut all their positions."

Initially, investors viewed the comment as an about-turn because on Tuesday Mr Geithner had firmly dismissed suggestions that the global economy move away from using the dollar as the main reserve currency.

In a congressional hearing on Capitol Hill, US Republican Michele Bachmann, a Minnesota Republican, asked Mr Geithner: "Would you categorically renounce the United States moving away from the dollar and going to a global currency as suggested this morning by China and also by Russia, Mr Secretary?"

Mr Geithner replied, "I would, yes."

Chinese central bank chief Zhou Xiaochuan on Monday urged an overhaul of the global monetary system to allow for wider use of Special Drawing Rights (SDRs) created by the International Monetary Fund as an international reserve asset in 1965.

Mr Zhou's comments followed remarks by Russia last week which said it would put forward a proposal at a meeting of the Group of 20 in London on April 2 for the creation of a new global reserve currency.

http://www.telegraph.co.uk/finance/economics/5049436/Geithner-about-turn-on-dollar-status-shocks-currency-markets.html

Paper gold: nice idea, shame about the politics

Paper gold: nice idea, shame about the politics

The world outgrew the gold standard decades ago. But a “paper gold” standard might be one way out of the global financial crisis. Zhou Xiaochuan, governor of China’s central bank, has proposed shifting the world from its dependence on the US dollar to a new reserve currency managed by the International Monetary Fund. The idea is good – if only China meant it.

By John Foley, breakingviews.com
Last Updated: 11:27AM GMT 24 Mar 2009

The greenback has been the world’s dominant reserve currency – equivalent to a financial lingua franca – since the end of the Second World War. Countries hold it in spades to back their own currency. The IMF reckons that two-thirds of the $7 trillion of foreign currency holdings worldwide are in US dollars. The euro, the second most-held currency, makes up just a quarter.

Were international trade switched instead to an IMF-managed currency – Zhou suggests a little-used device called a “special drawing right” or SDR – Uncle Sam would have a real headache. America’s borrowing and trading costs would spike. After all, the US saves by rarely needing to convert its own money – a perk known as “seigniorage”.

But in the long term, the US would benefit. Being the currency of choice has made it unnaturally cheap for the US to borrow and fund its consumers’ profligate habits. Besides, as Zhou points out in a scholarly flourish, there’s the Triffin Paradox to consider. This says that so long as the US agrees to feed the world with dollars, it can’t successfully control its own currency.

Having a central currency – let’s call it the Zhou-Triffin Doubloon (ZTD) – managed by a supra-national organisation would make it more difficult for any one country to get into too much debt to another. If the supply of ZTD in issue were controlled properly – say by expanding it in line with global GDP – it would serve as a steady store of value, with little risk of devaluation.

Moreover, a credible ZTD would have many of the advantages of the now-defunct gold standard. It would be strictly limited in supply and ready acceptability everywhere. Indeed, it would be even better than the yellow metal, which is after all too cumbersome for a modern economy and too scarce to serve as a measure for international trade.

In sum, the ZTD would add much needed ballast to international finance. And China would not be alone in promoting this single currency. Russian authorities have been thinking along similar lines.

So why not get cracking? There are many obstacles: most notably getting the IMF up to the task. Nor is China in any position to move quickly. A truly global reserve currency would have to be based on a basket of world currencies, which would include the renminbi. China would have to make its tightly controlled currency freely convertible – which it shows no desire to do.

Indeed, China probably has other things in mind than financial stability, such as augmenting its global financial sway. Right now, the Middle Kingdom has only a 3pc vote in the IMF, no more than Belgium, because votes are linked to each country’s contribution to the fund. Were China able to claim credit for its prodigious foreign reserves, it could replace the US at the top of the table.

At best, China’s proposal is self-serving. At worst, it could be merely another manifestation of growing hostility towards the US – to be filed alongside recent protectionism, naval skirmishes and Chinese criticism of US spending habits. That political undercurrent is a shame. Paper gold looks like one of the best ideas to come out of the financial crisis.



http://www.telegraph.co.uk/finance/breakingviewscom/5042739/Paper-gold-nice-idea-shame-about-the-politics.html

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