Also known simply as a reserve currency, or less frequently, an “anchor currency,” the world reserve currency is more like a vehicle or container – like a 401(k) or RRSP – which can hold a certain currency inside. In other words, there is no essential or necessary world reserve currency. It could be any currency – even one that does not exist yet. Right now the reserve currency happens to be the US dollar. It has been since the Bretton Woods agreements of July 1944. This was when the U.S. was a creditor nation and the fastest-growing world economy.
Reserve currencies have been in effect for centuries. And in fact, with much of the new recent hoopla about supplanting the US dollar as the reserve currency, it’s worth noting that this may be an escalating trend, but similar calls were also made in the 1970’s over similar worries about the world financing US deficits.
Certain amounts of the world reserve currency are held in foreign exchange reserves by governments (and sovereign wealth funds) and institutions (like the IMF) around the world. But foreign exchange reserves around the world do not *only* hold the world reserve currency: while the US dollar is always a majority of their holdings, the Euro is a close second (about 25% of holdings), and other major currencies (Swiss Francs, Yen, pounds, Canadian dollars) are also held. Thus, strictly speaking, these are also reserve currencies, with an important caveat:
The world reserve currency also acts as the international pricing currency for oil, gold, and other products traded on world markets. You can’t trade oil in Euros and countries can’t trade gold in Yen. This gives an advantage to the US dollar because other countries need to transact to exchange their own money into dollars first. It has even been argued that this serves to artificially inflate the US dollar insofar as it becomes the only reason countries need to hold it.
Find Out More About the Status of the World Reserve Currency
Zhou Xiaochuan’s Proposal For World Reserve Currency is Accepted by UN (March 29, 2009)
U.S. Dollar Up For Debate At G8 Meeting (July 5, 2009)
Supracurrency Coin Proposed As New World Reserve Currency (July 12, 2009)
U.S. Dollar Must Be Replaced As The World Reserve Currency (Sept. 8, 2009)
World Bank to U.S.: Don’t Take Reserve Currency Status for Granted (Sept. 27, 2009)
Recently, China, Russia, India and France have expressed more concern over needing to hold their wealth in dollars. Why? Because of the massive debts of the US government. The US is no longer a creditor nation. It now borrows more money from the rest of the world than ever, and more than any other country does currently as well. These countries are concerned about their investments dropping. When you price the value of the dollar against the amount of gold (or oil) it buys, you see a tremendous decline in purchasing power.
Alternatives have been proposed, from using the Euro to using SDRs (special drawing rights) to a completely new “united world reserve currency.” Time will tell what happens. As of July 2009, leaders seem to want to focus on improving the world economy rather than dealing with this piece of its structure. We will see how wise is that decision and what kind of developments it undergoes.Related Posts
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