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Hitotsubashi University
Keio University
Regional Monetary Cooperation in
the US Dollar Key Currency System
Eiji Ogawa
Deputy Director, EU Studies Institute in Tokyo
and
Professor, Hitotsubashi University
March 31, 2010
Tsuda College
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Contents
• Motivation and objectives
• US dollar key currency systems in the past and
the present
• Euro and Asian currencies during and after the
global financial crisis
• Regional vs. international monetary cooperation
• Conclusion
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Motivation (1)
• The global financial crisis, started from US financial
institutions, seemed to erode confidence of the US$ and, in
turn, to give depreciating impacts to the US$ against the
other currencies. However, the euro and the sterling pound
have depreciated against the US$ during and after the crisis
while only the Japanese yen has appreciated.
• The situation is deeply related with the current
international monetary system where the US$ has still have
a position of “key currency” in the world economy.
Economic agents in the world economy which include even
the EU have to use and hold the US$ as a major settlement
currency
in international
transactions.
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Motivation (2)
• On March 25, the heads of state and government of the
euro area made an agreement that the euro area member
states are ready to contribute to coordinated bilateral loans
by complementing International Monetary Fund (IMF)
regarding financial assistance to Greece.
• Both the Asian currency crisis in 1997 and the Greek fiscal
crisis in 2010 have stimulated arguments regarding
establishing a regional monetary fund for regional
monetary cooperation such as Asian Monetary Fund (AMF)
and European Monetary Fund (EMF)
• It has been discussed whether regional monetary
cooperation should be complementary to IMF or substitute
for IMF.
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Objectives
• To consider characteristics of the current international
monetary system, that is, the US$ key currency system.
• To observe impacts of the global financial crisis on the euro,
the pound, the yen, and other Asian currencies.
• To consider why the euro and the pound depreciated
against the US$ even though the global financial crisis
started from the US financial institutions.
• To compare arguments regarding AMU and EMU comparing
with IMF.
• To consider desirable relationship of regional monetary
cooperation with the current international monetary
system
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Key currency in the Bretton
Woods System and current
system
• Under the Bretton Woods System (BWS), the key currency
(US$) means an only nominal anchor for the other
currencies. It was a rule of game in the BWS. Under the
BWS, the monetary authorities of the other countries had
to fix their home currencies to the US$ while the US had to
fix the US$ to gold.
• In the current system, a key currency means a major
settlement currency in international trade, capital, and
financial transactions. There is no longer any rule of game
that the other currencies
should be fixed to the US$.
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Bretton Woods system
gold
US＄
￡
DM
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JPY
7
Current system
JPY
US＄
EU27
EU16
€
￡
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Global key currency vs.
regional key currency
• It needs large momentum to shift from the US$ key currency system
because of inertia of the US$ as a key currency in the global economy
(Ogawa and Sasaki (1998), Ogawa and Kawasaki (2001)).
• Under the current system, little global governance against external
currency policy of the US because of currency monopoly (Ogawa
(2009)).
⇒Given the single key currency system, external currency policy of the
US need to be disciplined by the rest of world.
⇒At the same time, the Fed should play a role as international “lender
of last resort” for central banks in the world.
• It is possible to make a regional major currency a key currency in the
region. （The euro has been already regarded as a regional key
currency.）
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Depreciating euro and
pound during the global
financial crisis
•
The euro and the pound have faced two-time
depreciations during and after the global financial crisis.
(1) Sudden depreciation since the Lehman Shock in 2008
during the global financial crisis.

The Lehman Shock increased counter-party risk in inter-bank
markets especially in Europe while some of European countries
faced burst of housing bubbles like in the US.
 European financial institutions who damaged their balance sheet
due to loss of securities backed by the subprime mortgage could
not finance US$ liquidity because of the counter-party risk.
 US Fed supplied US$ liquidity to ECB and BOE through currency
swap arrangements. ECB and BOE supplied unlimited liquidity to
financial institutions on
collateral.
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1999/1/1
1999/4/5
1999/7/6
1999/10/6
2000/1/6
2000/4/7
2000/7/10
2000/10/10
2001/1/10
2001/4/12
2001/7/13
2001/10/15
2002/1/15
2002/4/17
2002/7/18
2002/10/18
2003/1/20
2003/4/22
2003/7/23
2003/10/23
2004/1/23
2004/4/26
2004/7/27
2004/10/27
2005/1/27
2005/4/29
2005/8/1
2005/11/1
2006/2/1
2006/5/4
2006/8/4
2006/11/6
2007/2/6
2007/5/9
2007/8/9
2007/11/9
2008/2/11
2008/5/13
2008/8/13
2008/11/13
2009/2/13
2009/5/18
2009/8/18
2009/11/18
2010/2/18
Movements of euro and
pound against US$
US$/euro
1.6
1.5
pound/US$
US $ TO EURO (WMR&DS) - EXCHANGE RATE
0.4
UK POUND TO US $ (GTIS/TR) - EXCHANGE RATE
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0.45
1.4
0.5
1.3
0.55
1.2
0.6
1.1
0.65
1
0.7
0.9
0.75
0.8
0.8
Data: Datastream
11
2005/1/3
2005/2/15
2005/3/30
2005/5/12
2005/6/24
2005/8/8
2005/9/20
2005/11/2
2005/12/15
2006/1/27
2006/3/13
2006/4/25
2006/6/7
2006/7/20
2006/9/1
2006/10/16
2006/11/28
2007/1/10
2007/2/22
2007/4/6
2007/5/21
2007/7/3
2007/8/15
2007/9/27
2007/11/9
2007/12/24
2008/2/5
2008/3/19
2008/5/1
2008/6/13
2008/7/28
2008/9/9
2008/10/22
2008/12/4
2009/1/16
2009/3/2
2009/4/14
2009/5/27
2009/7/9
2009/8/21
2009/10/5
2009/11/17
2009/12/30
2010/2/11
Credit spread
(LIBOR(US$)-US TB, 3 mos)
％
Credit spread（LIBOR-TB, 3mos, US$）
5
4.5
4
3.5
3
2.5
2
1.5
1
0.5
0
Data: Datastream
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Depreciating euro and
pound after the global
financial crisis
(2) Second depreciation since November 2009 in a situation
of the Greek fiscal crisis after the global financial crisis.

A fiscal crisis is a typical cause of classical balance of payment
(BOP) crisis. It is expected that fiscal deficits have to be financed by
issuing money. Fiscal deficits are expected to lead to easy monetary
policy, inflation and, in turn, depreciation of the currency.
 In addition, it is expected that the fiscal crisis in Greece may have
contagion to other countries (so-called PIIGS) in the euro area. The
contagion effect to the euro area might damage confidence in the
euro.
[ One measure to stop the contagion effect is consider to be
“regulation” of the Credit Default Swap (CDS) in EU.]
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Reaction of Asian currencies
•
AMU and AMU Deviation Indicators
（see http://www.rieti.go.jp/users/amu/index.html)
(1) AMU（Asian Monetary Unit）: a weighted average of East Asian
(ASEAN+3 (China, Japan, and Korea))
(2) AMU Deviation Indicator: position of each East Asian currency
against the AMU based on benchmark period (2000-2001)
•
AMU has been appreciating against a currency basket of the US$
and the euro since August 2008.
•
AMU has been appreciating against the US$ since May 2009 after
it depreciated against the US$ from April 2008 to April 2009.
•
AMU has had twice appreciation against the euro during and after
the global financial crisis.
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Movements of AMU
against US$ and euro
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Asymmetric reactions of
Asian currencies
•
AMU Deviation Indicators of East Asian currencies shows
their asymmetric reactions caused by the global financial
crisis.
• The Japanese yen has been overvalued in terms of the
AMU since October 2008.
• The Chinese yuan has been depreciating against the AMU
since March 2009.
• The Korean won changed from 20% of overvaluation in
October 2007 to 30% of undervaluation in March 2009. It
depreciated by 50% points in terms of the AMU. It has
been appreciating International
against
the AMU since then.
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Nominal AMU Deviation
Indicators of Asian currencies
Figure 2. Nominal AMU Deviation Indicators
(benchmark year=2000/2001, basket weight=2004-2006,daily)
(%)
50
Brunei Darussalam
Cambodia
China P.R.
Indonesia
Japan
South Korea
Laos
Malaysia
Myanmar
Philippines
Singapore
Thailand
Vietnam
40
30
20
10
0
-10
-20
-30
-40
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Jan-10
Nov-09
Sep-09
Jul-09
May-09
Mar-09
Jan-09
Nov-08
Jul-08
Sep-08
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May-08
Mar-08
Jan-08
Nov-07
Sep-07
Jul-07
May-07
Mar-07
Jan-07
Nov-06
Sep-06
Jul-06
May-06
Mar-06
Jan-06
Nov-05
Sep-05
Jul-05
May-05
Mar-05
-50
17
Nominal AMU-wide Deviation
Indicators of Asian currencies
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Backgrounds of the
asymmetric reactions
•
Backgrounds of the asymmetric reactions of East Asian currencies
(1) Different exchange rate system adopted among East Asian
countries:
Japan and Korea adopt flexible rate system.
China has fixed RMB to the US$ since July 2008 although it made
announcements of adopting a managed floating rate system with reference to a
currency basket.
Some of ASEAN target a currency basket.
(2) Active regional capital flows:
US and European financial institutions conducted yen carry trades by borrowing
the yen and investing in the Korean won before the global financial crisis. During
the crisis they closed the yen carry trade and Korea faced sudden stops and
moreover backward flows from Korea.
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Regional vs. International
Monetary Cooperation
• IMF is the only institution for international
monetary cooperation which was established to
manage BOP crisis in 1944.
• In Asia, establishing AMF was proposed for a
regional monetary cooperation in Asia during the
Asian currency crisis in 1997.
• It is discussed that an Euro(pean) Monetary Fund
(EMF) should be established for crisis in the euro
area after the Greek fiscal crisis.
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Is the IMF a lender of last
resort?
• IMF is not a central bank that issues any currencies, especially the
US$. [SDR is not any currency but unit of account.] However, it is a
kind of pooling and lending institution that gives loans to BOP crisishit countries. Moreover, it conducts bilateral surveillance over each
of countries for preventing BOP crisis.
• In the case of regular facilities (stand-by arrangements (SBA)), it takes
some time to implement a financial assistance to BOP crisis-hit
countries because of time lags in crisis-hit countries’ decision making
process, IMF’s their negotiation process with IMF regarding
conditionality, and IMF’s decision-making process.
• It is said that the conditionality is supposed for a classical BOP crisis
that is caused by fiscal deficits and inflationary monetary policy. The
conditionality is regarded as an old-fashioned and in some cases
inadequate for new types
of currency crisis.
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IMF’s lending policy
improvement:
•
•
IMF facilities are needed for giving prompt financial assistance to
crisis-hit countries that face with liquidity problem caused by sudden
stop of capital flows. Contingent Credit Line (CCL) was created in
1999 (however, no countries applied for it.) In 2009, IMF
implemented lending policy improvement which include creating
Flexible Credit Line (FCL) as well as modernizing conditionality.
Flexible Credit Line (FCL)
(1) FCL is for countries with very strong fundamentals, policies, and track records of
policy implementation and is particularly useful for crisis prevention purposes.
(2) FCL arrangements are approved for countries meeting pre-set qualification
criteria.
(3) Disbursements under the FCL are not conditioned on implementation of specific
policy understandings as is the case under the SBA. There is flexibility to draw on
the credit line at the time it is approved, or it may be treated as precautionary.
(4) Arrangement countries: Colombia, Mexico, and Poland
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Arguments regarding AMF
•
•
(1)
(2)
(3)
•
(1)
(2)
•
Establishing AMF was discussed during the Asian Currency Crisis in
1997.
Arguments for AMF (Japan and ASEAN)
Necessity of regional monetary cooperation.
IMF could not provide enough loans to the crisis-hit countries. (A
half of loans to Thailand were made by Asian countries.)
IMF’s conditionality are not adequate for the Asian Currency Crisis
that was not a classical crisis but the so-called third generation of
crisis (combination of currency and financial crises).
Arguments against AMF (US and IMF)
Duplication with IMF.
Moral hazard problem should be caused by less strict conditionality
that AMF imposes to a crisis-hit country.
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Regional Monetary
Cooperation in Asia
•
Chiang Mai Initiative (CMI)
(1) Currency Swap Arrangement (CSA) for managing currency crisis
ASEAN+3: CMI (2000) to CMIM (CMI Multilateralization) (2010) =>
reserve pooling and multilateral decision making process
Japan-India (July 2008, US$ 3 billion)
[IMF link (CSA will be implemented only after IMF decide to give
financial assistance to a crisis-hit country) impedes implementation
of CSA under CMI. Korean case in 2008-9 was a typical one.]
(2) Surveillance process for preventing currency crisis
macroeconomic variables (GDP and inflation) and soundness of
banking sector
They should watch intra-regional exchange rates.
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EMF Proposal
•
•
(1)
Wolfgang Schäuble, German finance minister, proposed EMF that
should be backed by strict conditionality and sanctions to enforce
fiscal discipline (Financial Time (March 12, 2010)).
The EMF proposal is to focus on enforcing fiscal discipline and
limiting moral hazard problem. For the purposes, the following
mechanism is proposed by Gros and Mayer (2010):
Contribution: Only those countries that breach the Maastricht criteria have to
contribute. The contribution rate is 1% annually of the stock of ‘excess debt’ over
60% of GDP and 1% of the excessive fiscal deficit over 3% of GDP. (=> reducing
moral hazard of borrowers)
(2) Enforcement mechanism: as a first step, new funding would be cut off. Funding
under the structural funds could also be cut off. Finally the country could
effectively be cut off from the euro area’s money market when its government
debt is no longer eligible as collateral for the ECB’s repo operations. (=> reducing
moral hazard of borrowers)
(3) Orderly default: EMF could offer holders of debt of the defaulting country an
exchange of this debt withInternational
a uniform
haircut against claims on EMF. (=> reducing
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moral hazard of lenders)
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Fiscal deficit/GDP of Greece
fiscal deficit/GDP of EU27
10
5
0
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
-5
-10
-15
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2011
2012
2013
Greece
Belgium
Bulgaria
Czech Republic
Denmark
Germany
Estonia
Ireland
Spain
France
Italy
Cyprus
Latvia
Lithuania
Luxembourg
Hungary
Malta
Netherlands
Austria
Poland
Portugal
Romania
Slovenia
Slovakia
Finland
Sweden
United Kingdom
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Conclusion
• The global financial crisis depreciated the euro, the pound, and Asian
currencies except for the Japanese yen under the current
international monetary system with the US$ as only a key currency in
the global economy.
• Regional monetary cooperation is regarded to complement IMF
because IMF has limited fund to give financial assistance and limited
information on crisis-hit countries. On the other hand, it is discussed
that regional monetary cooperation should be substitute for IMF.
• Countries and regions should have regional monetary cooperation
from a view point that “self-help” is the way for them to reduce
moral hazard and overcome currency crisis. For the purposes,
regional monetary fund with any mechanism to reduce moral hazard
are effective in preventing and managing currency crisis.
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References
• Council of the European Union, “Statement by the heads of state and government
of the euro area,” March 25, 2010.
• Gros, Daniel and Thomas Mayer, “How to deal with sovereign default in Europe:
Towards a Euro(pean) Monetary Fund,” CEPS Policy Brief, no. 202/February 2010.
• International Monetary Fund, “IMF Overhauls Lending Framework,” March 24,
2009.
• Ogawa, Eiji, “Effects of the global financial crisis on the euro, the pound, and the
yen,” presentation at the international conference of EUSI Joint Research on EU
Economy on December 12, 2009.
• Ogawa, Eiji and Kentaro Kawasaki, “Effects of introduction of the euro on
international monetary system,” Hitotsubashi University, Graduate School of
Commerce and Management, Discussion Paper Series, 2001. (in Japanese)
• Ogawa, Eiji and Yuri N. Sasaki, “Inertia in the Key Currency,” Japan and the World
Economy, vol. 10, no. 4, 421-439, 1998.
• Schäuble, Wolfgang, “Why Europe’s monetary union faces its biggest crisis”
Financial Times, March 12, 2010.
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