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Welcome to the Currency War, Part 5: The Dollar Gets Serious Competition

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Welcome to the Currency War, Part 5: The Dollar Gets Serious Competition

Courtesy of John Rubino.

Not so long ago the dollar was the world’s only reserve currency. Everything else was one (or several) steps down in terms of safety and liquidity, and major financial institutions acted accordingly, accumulating dollars for the risk-free parts of their portfolios. Global demand for dollars was, as a result, effectively infinite, which meant the US could borrow whatever it wanted, secure in the knowledge that the Treasury bonds it created would find willing buyers.

But quietly, over the past couple of decades, the dollar has been joined at the top by the euro, yen, pound sterling and Swiss franc. And now the list of legitimate reserve currencies has expanded to include Canadian and Australian dollars:

Aussie, Canada dollars termed reserve currencies

 

LONDON (MarketWatch) — The Australian and Canadian dollars, the world’s leading commodity-rich currencies, are being formally classified as official reserve assets by the International Monetary Fund, marking the onset of a multi-currency reserve system and a new era in world money.

 

In a seemingly innocuous yet highly portentous move, the IMF is asking member countries from next year to include the Australian and Canadian dollars in statistics supplied by reserve-holding nations on the make-up of their central banks’ foreign exchange reserves. The technical-sounding measure, reflecting growing diversification of the world’s $10.5 trillion of reserves, is likely over time to exert wide-ranging impact on world bond and equity markets.

 

Expanding by two the list of officially recognized reserve assets from the present five — the dollar, euro, sterling, yen and Swiss franc — signals a new phase in the development of reserve money. For most of the past 150 years, the world has had just two reserve currencies, with sterling in the lead until the First World War, and the dollar taking over as the prime asset during the past 100 years.

Sterling — although still the world’s third reserve currency on IMF figures, just ahead of the yen — has been in relative decline since the Second World War. The birth of the euro in 1999 has turned the European single currency into the world’s No. 2 reserve unit, but it is now officially accepted that the dollar and the euro share their role with smaller currencies.

 

Enshrining in official thinking a development already evident among reserve managers and on private markets, in a sense, does no more than catch up with reality. However, the IMF step has both practical and symbolic importance and will likely promote further asset diversification among official and private asset managers.

 

The popularity among central banks of the Australian and Canadian dollars, which have been relatively strong even against the firm U.S. dollar during the past few years, reflect their stable economic growth and intact banking systems since the financial crisis, as well as the influence of Australian and Canadian commodity resources. On informal estimates, worldwide official foreign-exchange holdings in each of the two currencies probably are around $60 billion.

The Chinese renminbi, the Korean won and the Singapore dollar are being held by a relatively small number of central banks. There are no Asian currencies (apart from the yen) on the new IMF list, reflecting their still very low use as official assets.

 

The renminbi has attracted widespread attention as a possible future reverse currency. But it’s still some years away from attaining that status, primarily because it is not fully convertible. Although held in appreciable quantities by 10 to 15 central banks around the world, the Chinese money lags as a reserve currency behind not just the Australian and Canadian units but also some Scandinavian currencies.

 

People’s Bank of China Gov. Zhou Xiaochuan said at the weekend: “For the central bank, the next movement related to the yuan [renminbi] is going to be reform of convertibility … We are going to realize it, we are moving in this direction, we need to go further, we will have some deregulation.”

 

Zhou, who will have completed 10 years at the central bank next month, is widely expected to retire shortly. The focus will be on how much scope the Chinese Communist leadership gives his successor to pursue further financial liberalization.

The importance of the dollar has diminished, from a peak of 71.5% of declared reserves in 2001 to just under 62% by 2012. Outside the five standard reserve currencies, the importance of “other” currencies has risen, from a low of 1.3% in 2001 to 5.3% by end-June 2012, amounting to $310 billion.

 

Some thoughts

Categorizing Canadian and Australian dollars as reserve currencies makes sense when you view those countries in terms of gold, oil, sunshine and other resources per citizen. By that measure, each Canadian and Australian dollar is backed by a lot more real value than are the currencies of the paper-dependent societies like the US, Europe and Japan. If, as seems likely, we’re in the early stages of a shift away from financial assets and towards real things, the relative strength, and currency exchange rates, of the better-run resource-based economies will keep improving, making their currencies less risky and more profitable investments.

Note that the Chinese renminbi (aka the yuan) and Singapore dollar aren’t on the list. But they will be soon, with China now the second biggest economy (and an aggressive importer of gold) and Singapore becoming the preferred destination of global savings (especially gold storage) now that Switzerland has been cracked by the IRS and other tax authorities. See China’s next step in yuan overhaul is convertibility.

Gold, meanwhile, is once again being accumulated rather than dumped by central banks, and has already, arguably, replaced the dollar as the most coveted reserve asset. This, by the way, is simply a return after a 40-year absence to the place gold has occupied since the beginning of recorded history.

What does this mean for the dollar? First, a lot of central banks and trading firms will sell dollars to buy those other currencies and gold in order to make their portfolios reflect evolving financial realities. That selling pressure will, other things being equal, lower the dollar’s relative value, which is another way of saying that the US might not be able to borrow infinite amounts of money going forward, forcing us to either cut annual deficits far faster than is currently planned or pay a higher interest rate on future borrowings, which would increase future deficits.

The US, in short, will finally be subject to the same economic laws as lesser countries, with the same result: excessive debt and money printing lead to currency crisis which leads to depression.

Visit John's Dollar Collapse blog here >

 

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Fri, 11/30/2012 - 17:56 | 3025143 e-recep
e-recep's picture

read history. reserve currencies have always been backed by a top notch military might. the army starts failing, the currency later fails too.

Wed, 11/28/2012 - 20:39 | 3019018 orangegeek
orangegeek's picture

Aussie and Canadian dollar.  Aussie dollar isn't even part of the US Dollar index.

 

Anything to tank/dethrone the US dollar.

 

Not going to happen.

Wed, 11/28/2012 - 20:36 | 3019013 media_man
media_man's picture

Australia and Canada without America's nuclear umbrella wouldn't be considered a very safe haven.  Australia especially would be vulnerable to a land invasion from China.  Lord knows they need the lebensraum.

That being said, anything that puts a leash on government spending is probably a good thing, so long as it doesn't mean they confiscate my 401k, pension, & checking/savings accounts.

If ChairSatan Bernanke can't just print his QE bucks, Congress is forced to balance the budget, no?  How is this a bad thing?  I realize mortgage markets will shrivel & housing prices will plummet.  Who cares?  File bankrtuptcy & buy your formerly $750K house for $75k, if you have the cash.

Interesting times. 

 

 

Wed, 11/28/2012 - 20:21 | 3018982 Debeachesand Je...
Debeachesand Jerseyshores's picture

With North America's ever expanding Nat Gas and Crude Oil reserves,I wouldn't put the USD in the "dustbin of History" just yet.

The US-Canada-Mexico could be basically energy independent by 2025.

Long North American Commodities.

Wed, 11/28/2012 - 20:14 | 3018969 11b40
11b40's picture

It should be very interesting to see how the Iranian oil for gold deals work out.  Now, we are telling Turkey to quit doing business this way with the Iranians.  Maybe it works with the Turks, but what happens when it's China or India that wants Iranian oil?

Wed, 11/28/2012 - 19:38 | 3018892 Salah
Salah's picture

It probably means we're getting very close to a reversal of the uber-low interest rate doctrine of the Fed.

I have long contended, from my global contacts in the oil & gas biz, that this commodity, largely priced in dollars (by design FDR & King Ibn Saud Valentine's Day 1945) is losing its attractiveness.  O&G is being found everywhere, and its pricing---as a critical sponge for the Fed's "sterilization" ain't what it used to be.

Get ready for higher rates, the minute some kind of 'Grand Deal' is done on the budget.

 

Wed, 11/28/2012 - 19:08 | 3018815 LawsofPhysics
LawsofPhysics's picture

What?  No yuan? < sarc off >  got maple leafs?

Wed, 11/28/2012 - 18:29 | 3018708 JosephConrad
JosephConrad's picture

The Dollar is a Currency of economic enslavement. It off-loads inflation, theft and greed onto well-run nations and financial systems. Then it uses WAR & the Arms Trade to keep from sinking down the toilet! Americans need to get rid fo the thieves, liars and THUGS inside the Beltway!

Wed, 11/28/2012 - 19:10 | 3018824 LawsofPhysics
LawsofPhysics's picture

been saying this for years.  Hang John Corzine publically and restore real consequences for bad behavior and watch market confidence return in a hurry.

Wed, 11/28/2012 - 17:49 | 3018600 johnnymustardseed
johnnymustardseed's picture

Loonie a reserve currency over the dollar,,,ouch!

Wed, 11/28/2012 - 17:02 | 3018462 bank guy in Brussels
bank guy in Brussels's picture

The 'Day the Dollar Die', prophetic 1979 reggae song by Peter Tosh, on his album Mystic Man:

« The day the dollar die, Things are gonna be better

The day the dollar die, No more corruption

The day the dollar die, People will respect each other

Finance ministers groaning, Unemployment is rising, And I hear my people crying ...

The day the dollar die, It's gonna be nice ...

The day this here dollar die, There be no more inflation

The day the dollar die ... We will love each other ... »

http://www.youtube.com/watch?v=EtwmjcsQi1E

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