Revisiting The Dollar Hegemony: Alternative Reserve Currencies Over The Years

In yesterday’s mail from the National Bureau of Economic Research (abstract):

Reserves and Baskets
Michael D. Bordo, Harold James

We discuss three well known plans that were offered in the twentieth century to provide an artificial replacement for gold and key currencies as international reserves: Keynes’ Bancor, the SDR and the Ecu (predecessor to the euro).The latter two of these reserve substitutes were institutionalized but neither replaced the dollar as the principal medium of international reserve.

Despite the brief and dry abstract, the paper itself is a very readable and informative trip down memory lane, outlining the various attempts over the years to find a replacement for the US Dollar’s role as the primary reserve currency in the post-war international monetary system.

Here’s the conclusion:

There are, in the long run, only two answers that will make the world’s currency difficulties and dilemmas disappear. One is that countries will gradually recognize that they need a lower stock of reserves. Freely floating exchange rates obviate the need to hold international reserves. The adoption of such an exchange rate policy however in turn requires deep and liquid financial markets, the absence of capital controls and exchange market intervention and the pursuit of stable and credible monetary and fiscal rules. These preconditions require the financial development that most emerging countries have not yet attained. The current pile up of reserves in many emerging countries was a result of the Asian crisis of 1997-8, in which apparently strong countries suddenly became vulnerable to reversals of market sentiment. As crises fade into a distant past, more countries might convince themselves that they do not need reserves. But that time is not now. The experience of the current turmoil shows precisely that they are still needed, and that countries cannot always have access to capital markets to finance themselves in an emergency.

The second possibility is equally remote at present: it is the application of the European answer of 1999, monetary union, on a world level (Bordo and James 2006). This would instantly make the reserve issue completely irrelevant. But it would require the abandonment of a major component of sovereignty, the monetary policy tool, as well as a move towards global economic integration by every country – including the United States, which shows every sign of being resistant to such a move.

A possible interim step is a multi-polar reserve system as suggested here. But that seems as far off as the end-game.

Technical Notes

Bordo, Michael D. & Harold James, "Reserves and Baskets", NBER Working Paper No. 17492, Issued in October 2011