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A 'reserve currency' (or 'anchor currency') is a currency which is held in significant quantities by many governments and institutions as part of their foreign exchange reserves. It also tends to be the international pricing currency for products traded on a global market, such as oil, gold, etc. More recently, however, nations especially in Asia, have been stockpiling reserves in an effort to strengthen export competitiveness by weakening their own currencies, and also to contain quick and large inflows of capital, and buffer against financial crisis such as the Asian financial crisis.
This permits the issuing country to purchase the commodities at a marginally cheaper rate than other nations, which must exchange their currency with each purchase and pay a transaction cost. (For major currencies, this transaction cost is negligible with respect to the price of the commodity.) It also permits the government issuing the currency to borrow money at a better rate, as there will always be a larger market for that currency than others.
The 'United States dollar' is the most important reserve currency in the world today. Throughout the last decade, well over 50% of the total allocated foreign exchange reserves of countries have been in US dollars. For this reason, the US dollar is said to have "reserve currency status", making it possible for the United States to run higher trade deficits (financed by seigniorage) with limited economic impact (see currency crisis) as long as the major foreign holders of dollars continue to hold them.
The 'euro' is currently the second most commonly held reserve currency, being approximately a quarter of allocated holdings. After World War II and the rebuilding of the German economy (see the ''Wirtschaftswunder''), the German 'Deutsche mark' gained the status of the second most important reserve currency after the US dollar. When the euro was launched in 1999, replacing the mark and other European currencies, it inherited the status of a major reserve currency from the mark. Since then its contribution to official reserves has risen continually as banks seek to diversify their reserves and trade in the eurozone continues to expand.[1] The New York Times Book Review also referred to the euro as the "Deutsch-Mark by another name".
The United Kingdom's 'pound sterling' was the primary reserve currency of much of the world in the 18th and 19th centuries. The dire economic cost of fighting the Second World War, and the increasing dominance of the USA in world economics, resulted in Sterling losing its status as the world's most powerful currency. In mid 2006 it was the third most widely held reserve currency, having seen a resurgence in popularity in recent years.[2] Analysts say this resurgence is caused by carry-trade investors considering the pound as a stable high-yield proxy to the Euro.[3]
The 'Japanese yen' was considered as the third most important reserve currency for several decades, but has recently been on the decline and has now been overtaken by sterling.
The 'Swiss franc' is often said to be a reserve currency as well, due to its stability, although the share of all foreign exchange reserves held in Swiss francs is typically just around or even below 0.3%.
Other nations and groups of nations have expressed their desire to see their currencies (or future currencies) be used as reserve currencies, such as Russia, and the Gulf Cooperation Council.
The G8 also frequently issues public statements as to exchange rates, though with the exception of Japan, the member states are impotent in their ability to directly affect rates. In the past, however, its predecessor bodies could directly manipulate rates to reverse large trade deficits (see Plaza Accord).
The top reserve currency is generally selected by the banking community for the strength and stability of the economy in which it is used. Thus, as a currency becomes less stable, or its economy becomes relatively less dominant, bankers may over time abandon it for a currency issued by a larger or more stable economy. This can take a relatively long time, as recognition is important in determining a reserve currency. For example, it took many years after the United States overtook the UK as the world's largest economy before the dollar overtook Sterling as the dominant global reserve currency.
★ Foreign exchange reserves
★ Hard currency
★ World currency
1. http://www.imf.org/external/pubs/ft/wp/2006/wp06153.pdf
2. The Daily Telegraph
3. http://www.xak.com/main/newsshow.asp?id=56419
★ Will the Euro Eventually Surpass The Dollar As Leading International Reserve Currency? (Menzie Chin, Jeffery Frankel)
This permits the issuing country to purchase the commodities at a marginally cheaper rate than other nations, which must exchange their currency with each purchase and pay a transaction cost. (For major currencies, this transaction cost is negligible with respect to the price of the commodity.) It also permits the government issuing the currency to borrow money at a better rate, as there will always be a larger market for that currency than others.
The 'United States dollar' is the most important reserve currency in the world today. Throughout the last decade, well over 50% of the total allocated foreign exchange reserves of countries have been in US dollars. For this reason, the US dollar is said to have "reserve currency status", making it possible for the United States to run higher trade deficits (financed by seigniorage) with limited economic impact (see currency crisis) as long as the major foreign holders of dollars continue to hold them.
The 'euro' is currently the second most commonly held reserve currency, being approximately a quarter of allocated holdings. After World War II and the rebuilding of the German economy (see the ''Wirtschaftswunder''), the German 'Deutsche mark' gained the status of the second most important reserve currency after the US dollar. When the euro was launched in 1999, replacing the mark and other European currencies, it inherited the status of a major reserve currency from the mark. Since then its contribution to official reserves has risen continually as banks seek to diversify their reserves and trade in the eurozone continues to expand.[1] The New York Times Book Review also referred to the euro as the "Deutsch-Mark by another name".
The United Kingdom's 'pound sterling' was the primary reserve currency of much of the world in the 18th and 19th centuries. The dire economic cost of fighting the Second World War, and the increasing dominance of the USA in world economics, resulted in Sterling losing its status as the world's most powerful currency. In mid 2006 it was the third most widely held reserve currency, having seen a resurgence in popularity in recent years.[2] Analysts say this resurgence is caused by carry-trade investors considering the pound as a stable high-yield proxy to the Euro.[3]
The 'Japanese yen' was considered as the third most important reserve currency for several decades, but has recently been on the decline and has now been overtaken by sterling.
The 'Swiss franc' is often said to be a reserve currency as well, due to its stability, although the share of all foreign exchange reserves held in Swiss francs is typically just around or even below 0.3%.
Other nations and groups of nations have expressed their desire to see their currencies (or future currencies) be used as reserve currencies, such as Russia, and the Gulf Cooperation Council.
The G8 also frequently issues public statements as to exchange rates, though with the exception of Japan, the member states are impotent in their ability to directly affect rates. In the past, however, its predecessor bodies could directly manipulate rates to reverse large trade deficits (see Plaza Accord).
The top reserve currency is generally selected by the banking community for the strength and stability of the economy in which it is used. Thus, as a currency becomes less stable, or its economy becomes relatively less dominant, bankers may over time abandon it for a currency issued by a larger or more stable economy. This can take a relatively long time, as recognition is important in determining a reserve currency. For example, it took many years after the United States overtook the UK as the world's largest economy before the dollar overtook Sterling as the dominant global reserve currency.
| Contents |
| See also |
| References |
| External links |
See also
★ Foreign exchange reserves
★ Hard currency
★ World currency
References
1. http://www.imf.org/external/pubs/ft/wp/2006/wp06153.pdf
2. The Daily Telegraph
3. http://www.xak.com/main/newsshow.asp?id=56419
External links
★ Will the Euro Eventually Surpass The Dollar As Leading International Reserve Currency? (Menzie Chin, Jeffery Frankel)
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