Yuan as an SDR - what's the hype about?

Discussion in 'East Asia & The Pacific' started by Technofox, Dec 2, 2015.

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  1. Technofox

    Technofox That Norwegian girl Staff Member Ret. Military Developer

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    I took a look an the other forum I was part of, a bad decision as I left after reading a single post:O---: (you'll see why after spending even a few minutes), but i noticed a lot of hype and high-fiving about the Yuan's inclusion in the IMF's SDR basket. Having been a party, or observer (I can't remember which) to a conversation with @Strategist about the topic, I knew a bit more about the topic and the expected impact, but was still curious as to what impact it would have on the Euro, the Yen and mainly the USD... it seems there's not much of an impact after-all and the hype was just that.

    Seeing as how this is a US oriented forum, I thought you guys who be interested in how the US Dollar is effected by this decision, which the US and Japan voted for I might add. If there was really a problem with including the Yuan, I can't imagine either of those nations voting against their own strengths.


    China's laughably overhyped quest to displace the dollar as a reserve currency, explained

    [​IMG]

    China this week received official status from the International Monetary Fund as the issuer of one of just five globally influential currencies that are used to peg the value of the IMF's Special Drawing Rights (SDR).

    The good news for those of you who don't know what any of this is about is that it's honestly not nearly as important as these stories are making it sound. I personally think the mechanics are interesting, but in terms of global economic conditions Paul Krugman rightly says, "This is not much more than a minor change in accounting, with trivial economic implications." Ben Bernanke compares it to an elementary school teacher putting a gold star on a piece of properly completed homework. He says it's a move that "confers no meaningful additional powers or privileges on China."

    What's the slightly longer version?
    Here are the key bullet points about this story:

    • The value of SDRs is specified in terms of a "basket" of internationally significant currencies.
    • Previously, the Chinese RMB was not in the basket. Now it will be.
    • SDRs are themselves not that important to the world economy.
    • Which currencies are in the basket is not that important to how SDRs work.
    • But membership in the SDR basket is symbolically important, serving as a kind of IMF seal of approval for foreign countries to hold your currency as a "reserve" instrument — a fancy finance term for when a country tries to save money by stockpiling foreign currency.
    • But it really is just symbolism, there is no particular indication that countries are about to start holding Chinese money as a major part of their reserves.
    • What's more, there's no particular economic significance to which currencies are used as international reserve currencies.
    • But there is arguably symbolic significance to being used in this way — it shows that foreign governments consider you credible and important.
    • So if this matters to the Chinese government, it matters either because they are misinformed or because they are primarily after a symbolic token of national prestige.
    • It is entirely possible that the Chinese government doesn't particularly care much about this whole issue, which would be sensible of them.
    So what's an SDR?
    At the heart of this unimportant story is a deservedly obscure economic instrument known as a Special Drawing Right.

    IMF member states (which these days is basically all countries) hold SDRs that are allocated (i.e., created out of thin air) to member states in a manner proportionate to their payments to the IMF. The value of an SDR is determined in terms of a basket of currencies. Back in the early 1990s, for example, an SDR was 40 percent dollars, 21 percent German marks, 11 percent French francs, 17 percent Japanese yen, and 11 percent British pounds. More recently, SDRs have been 41.9 percent dollars, 37.4 percent euros, 9.4 percent yen, and 11.3 percent pounds. Now China is joining the club, and future SDRs will be 10.92 percent yuan, with the weight accorded to other currencies diminished accordingly.

    You can't actually do anything with an SDR other than swap it for one of its component currencies. Consequently, countries generally don't do anything with their SDRs, and SDRs play no significant functional role in the economy.

    If this doesn't sound important to you, then you are correct. As Berkeley economist Maurice Obstfeld recounts in his excellent overview of the SDR, they were created to solve a problem peculiar to the economic conditions of 1969. At the time, only gold or dollars — which were convertible to gold — could be used for international economic transfers. But there wasn't enough gold and dollars to go around. The idea was that "even though SDRs are not money, they could be used, like demonetized gold, to settle international claims between central banks." Could this have worked? Maybe. But the world will never know, because just a few years later Richard Nixon ended the convertibility of dollars into gold, and the entire gold-based system and the gold-related problem the SDR was supposed to solve went away.

    So then what's a reserve currency?
    Countries sometimes want to stockpile foreign currency — or financial assets that are denominated in foreign currency — for a variety of reasons.

    One, as Obstfeld recounts, is as a form of "self-insurance" against financial crisis. The IMF itself is supposed to be able to help crisis-stricken countries with loans, but getting an IMF loan requires agreeing to an IMF-written structural adjustment program. Keeping a few billion dollars under the pillowcase is a small price to pay for national sovereignty.

    Another is genuinely as a savings device. Intelligently managed oil exporting countries, for example, know that spending 100 percent of any given year's oil revenue would be a mistake. The global price of oil goes up and down from year to year, and the reserves generally don't last forever. So oil-rich countries generally stockpile a bunch of foreign currency during good times to have something to help ride out the lean years.

    Last, a country can amass foreign currency reserves as a kind of accident. For years, Americans were buying tons of stuff that was made in China, and the Chinese government didn't want this to drive up the price of Chinese currency. Consequently, China needed to buy and hold some dollar-denominated financial assets. That's how it wound up buying so many US government bonds, leading to a lot of misinformed commentary about the existence of some kind of Chinese debt bomb.

    In theory, the dollar could be supplanted by Chinese money someday. But not only would a lot of institutional, legal, economic, and political changes need to happen in China for this to make sense but you would also need some equivalent of the world wars to erode the United States from its current position.

    Okay, but being used as a reserve currency must be awesome, right?
    You often hear this, generally from Europeans, who sometimes complain that the United States enjoys an "exorbitant privilege" from the dollar's reserve currency status that allows us to get away with running large trade deficits.

    But this is not true. Australia has run bigger trade deficits for longer than the United States, nobody holds Australian dollars as a reserve currency, and Australian governments are not wasting their time trying to convince anyone to do it.

    Meanwhile, even if it really were true that being a global reserve currency made it easier for you to run a trade deficit, it's clear that the Chinese government doesn't want to run a trade deficit. On the contrary, it rather infamously intervenes in foreign exchange markets to try to ensure it runs a trade surplus to bolster its exporting industries.

    ...

    Some content has been omitted by myself, read the rest at:

    Content from - http://www.vox.com/2015/12/2/9836164/china-reserve-currency-sdr
    Credit to: Matthew Yglesias
     
    Last edited: Dec 2, 2015
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  2. Admin

    Admin Captain Staff Member Administrator

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    We have the largest economy in the world and we consume the most. This means that more trade and transactions are done with our country than another so that automatically means that the dollar is the most used currency in trade. When businessmen in the world trade with each other they trade in dollars. Why is this? Because the U.S dollar is the most stable currency out of all of the big boy countries. Our money isn't backed up by gold but others aren't either. The largest companies in the world are U.S companies, again another reason why the dollar will continue to be king. The only way the dollar will be out of favor is when we are defeated militarily in someway on a global scale and in effect lose our influence on other countries.
     
  3. Strategist

    Strategist Officer Candidate

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    First time in a while that I've checked this forum, good timing. That "other forum" seems to get worse every day, to the degree that I wonder what I once saw in it.


    Hmm, Vox should check its numbers Courtesy of the IMF:

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    This is an interesting point. Running a trade deficit is actually advantageous in securing one's position as a reserve currency--it causes other countries to build up holdings of your currency as they accumulate trade surpluses. If your currency is stable, your inflation is low, and your institutions are strong (what is also known as a "hard currency") congratulations, you too can be a reserve currency. That's why AUD, CAD, NZD, SEK etc. are held as reserve currencies by central banks even though they don't have the stamp of approval that SDR inclusion provides. It's also why the USD remains the reserve currency despite decades of trade deficits.

    Putting aside central bank-held reserves, what about transaction volume by currency (e.g. in what currency are cross-border transactions settled)? The RMB has been climbing the ranks, but it's still nowhere close to competing with the dollar, and it will not be a challenge until the RMB is truly freely convertible:

    [​IMG]

    Good for China for its SDR inclusion, but like many other shallow objectives that cheer Chinese citizens and cause a shrug in the West (e.g. steel production metrics, automobile production metrics, patents filed, etc), I agree with you: this is not a meaningful development.
     
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  4. Patriot1776

    Patriot1776 2nd Lieutenant

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    China devalues yuan by 2% to boost flagging economy

    Surprise move follows data showing economic dip amid new fears of deepening global currency wars

    China has sent shockwaves through global markets by moving to prevent a further drop in exports with the biggest one-off devaluation of its currency in 20 years.

    After recent Chinese data showed falling exports and a stalling manufacturing sector, the country’s central bank said on Tuesday it was allowing the yuan to weaken by nearly 2%. The hope is it will make exports more competitive and push down borrowing costs.

    http://www.theguardian.com/business/2015/aug/11/china-devalues-yuan-by-2-to-boost-flagging-economy

    This in august of 2015,

    [​IMG]
     
  5. Cossack25A1

    Cossack25A1 1st Lieutenant

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    The most likely reason why there is a hype on the Chinese Yuan/Renminbi becoming an SDR is "global prestige", as they would think that "because China's money is now an SDR, that means we (China) are more powerful than others!"
     
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