Tuesday, 15 October 2013


If there was, the dollar would be kaput. But there is really no alternative. So it has to be the dollar as the world's reserve currency.

It would be useful to go back to basics and understand what a currency really is.  A currency is really nothing more than a piece of paper backed by the promise of  a government. If you believe in the promise of the government , you hold that currency. If not, it is worthless. Remember the promise is only an act of faith - there is no backing of gold or a real asset behind the currency. Take out an Indian rupee note - any rupee note. It will say "I promise to pay the bearer the sum of xxx rupees" under the seal of the government of India. That's what it is - a promise.

Governments have the licence to print money. But if they simply keep printing on, it will lose its value. Beyond a point, the population will simply lose faith in that currency and resort to barter or to some other currency. That is precisely what happened in Zimbabwe sometime back - the Zim $ lost all value and the US $ became the de facto currency.

When it come to international trade and countries holding reserves, the only real currency of faith is the US dollar. Because the world had, and still has, the maximum faith in the US government above all. But that faith has been seriously eroded in the last two years thanks to antics in the US Congress. If there was an alternative, many would have fled the dollar. But there isn't. The Euro is on an even worse footing than the dollar - which country is the backer of the Euro ? Germany ? France ?  for there is no country called Europe. The Japanese Yen inspires very little confidence. The Chinese Yuan ?? - well the world has to go a long way before that happens - is everybody prepared to trust the Chinese government more than any other ?

China has called for a new global reserve currency. It has to, for after all, it is the largest lender to the world. Easy to say. But what will that reserve currency be ? And which government, or governments, will back it . And how can we trust that any more than the US dollar.

So there really is no alternative. But that should give those in the governance of the United States food for thought. The dollar retains its pre eminence only because the others are worse. Trust is hard to earn, but easy to lose. Those doing the antics  in the US for the last few weeks ( actually for the last four years) have done much to erode that trust. But the problem lies deeper. The US has been printing money like there was no tomorrow, for quite some time. It has come to the brink of default once before, and is now engaged in the same brinksmanship again. There is increasing evidence that sound economics is becoming a rare feature of the management of the US economy.

I am no economist and learned academicians ( are you there J !) have to design the future global reserve currency. But whatever that might be, it all boils down to trust. Alas, there is little to trust in today's world. Whose word can you trust when the only economy that is practiced is that with the truth.

The US dollar note says "In God we trust". I'm not sure if the irony strikes the governing class in that country.


The Million Miler said...

In god we trust, for the rest, cash up, no credit please!

Appu said...

Ha ha
as one of my friend said, "the US government is behaving much worse than a 3 year old spoiled brat! at least you can slap the kid and ask to behave!"

Ramesh said...

@Kiwi - Can understand the no no to credit, but even cash - what cash ????

@Zeno - Not the US government; the US Congress.

Sriram Khé said...

Not the US Congress, but the Grand Old Partisans!

BTW, thanks for the reminder about "in god we trust" ... the early republic did not use that as the motto, but it was "E pluribus unum" ... the very "patriotic" Americans stood up against the atheist commies by proclaiming in the mid-fifties that in god we trust. I think that is where the country started going downhill!!! ;)

Nor did the arrogance that "we print, therefore we are" start merely four years ago. Way earlier. Japanese money bought the Rockefeller Center, and even as the worry over Japan began it ended as quickly as it arose. The Euro gave a little scare, but its internal problems emboldened us. Now, China is the last man standing between the dollar and its continued domination. It is a confidence that this too shall pass.

It is an awful situation for the rest of the world that the #1 export from the US is nothing but its currency!

Ramesh said...

@Sriram - I don't have any beef about the dollar being the main export; except that you can't export something and make it worthless at the same time !

By the way, my "solution" to Congressional gridlock is to abolish all House constituencies and go back to the good old British way of drawing boundaries - old men in a smoky pub drawing straight lines. Out goes gerrymandering and with it go the extremists.

J said...

I wish I shared your faith in academic economists :) Unfortunately with no experimental opportunities to prove or disprove theories, every economic model is only as good as its assumptions. It is ironic that Fama and Schiller won the Nobel prize together. Given their diametrically opposite schools of thought, I am sure they cannot agree on anything.

It is too easy to blame the tea party types for all the current mess in the US political system. But there was no intelligent debate on either side. Anyway the drama is to be continued.... await the Feb 2014 sequel:(

Ramesh said...

@J - Yeah - its too easy to blame the tea party. Because of their nuttery, the central argument of balancing budgets has got lost. The loony left is as bad as the rabid right.

My faith in academicians, especially the redoubtable J, will remain very high :)

Anonymous said...

Is TINA a play on "This is Africa"?
I agree with you that there is no alternative to the USD as the global reserve currency. And none in sight too.

J said...

I'll take that vote of confidence even if misplaced :)

Ramesh said...

@Anon - That's a thought - the play on Africa !

VK said...

I am looking for a day when base reseve for currency printing will take turnover. it should be like this- a country which holds more food production capactiy shall provide currency to world. let gold & oil fade away.

Ramesh said...

@VK - - Not sure I follow you. I can understand the relative importance of food viz a viz oil or gold, but currency bases are a whole set of factors and not just say gold.

Sriram Khé said...

Following up on J's comment about economics and the Nobel ...
Here is what the Economist notes:
"The Nobel prize in economics has revealed how little we know about the behaviour of markets"

Meanwhile, Harvard's Raj Chetty writes in the NY Times that economics is a science.

Hey, hey, stop laughing ;)

Sandhya Sriram said...

See, do you now see, the logic on why the french made Amazon charge slightly more. They are actually doing their bit to support the world economy

Just imagine, Amazon charges slightly more, so makes slightly better profit and pays slightly more tax in the americas, so america prints slightly lesser currency, and helps the world to feel slightly more secure that america we go bust slightly later.

And you have uncessarily called them Crazy. they are indeed far sighted and very much concerned about the welfare of the world!! how come Ramesh, you can make such false accusations :-) :-)

Ramesh said...

@Sandhya - Ha Ha Ha. Now, that is a nice economic argument :)

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