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Database CURRENCY BOARDS Table 1 Recently established currency boards, main features Country Year of introduction Anchor currency Liabilities to be backed Backing rule in % At the beginning of the twentieth Hong Kong 1983 US dollar Certificates of 25 indebtedness century most countries in the 1991; system US dollar Argentina Monetary base 55 world, including colonies for that was abanmatter, tried to hold inflation in doned in 2002 check not by central banks – Originally Kroons in Estonia 1992 100 deutsche mark, circulation which they did not have – but by later euro currency boards. (Keeping to the Originally Litas in Lithuania 1994 100 rules of the gold standard is a speUS dollar, circulation cial case of a currency board.) later euro Bosnia and Originally Aggregate 1997 100 During the course of the century, Herzegovina deutsche mark, monetary however, most currency boards later euro liabilities were abandoned and turned into Bulgaria 1997 Originally Aggregate 60 central banks. A wave of dissoludeutsche mark, monetary later euro liabilities tion of currency boards occurred with the political independence Source: Compiled from Ho (2002) and recent information from Bank for International Settlements. of former European colonies in Asia and Africa. But some curand Herzegovina and Bulgaria – created currency rency boards have survived to this day, for example in boards. Bermuda, Brunei, the Cayman Islands, Djibouti, the Falkland Islands, the Faroe Islands or Gibraltar. The present-day currency boards, however, are not a The second part of the twentieth century witnessed “pure” or “orthodox” type. A pure currency board is a certain revival of currency boards (Table 1). Hong something like a “rule-based money-changing Kong started in 1983. Argentina followed eight machine” (Ho) only, operated by an administration, years later, but stopped the whole project in 2002. not by a central bank. Indeed, a central bank does not From 1992 to 1997 four Central- and South-eastern even exist. This implies that there is neither active, let European countries – Estonia, Lithuania, Bosnia alone discretionary, monetary policy, nor a lender of last resort capaTable 2 bility. By contrast, modern-day Recently established currency boards, operational features currency boards are, most often, operated by central banks, do Country Liquidity management Lender of last resort some liquidity management and Hong Kong No reserve requirements for Hong Kong Monetary dispose of the possibilities to act as banks, but overnight and Authority; intraday repo scope: systemic purposes lender of last resort (Table 2). Argentina 20% reserve requirement for banks’ deposits, overnight repo Central Bank of Argentina; scope: extraordinary circumstances Estonia 10% reserve requirement for banks’ deposits, standing deposit facilities Bank of Estonia; no explicit reference to lender of last resort duties nor capabilities Lithuania 8% reserve requirement for banks’ deposits, overnight lending The Bank of Lithuania; no explicit reference to lender of last resort duties nor capabilities Bosnia and Herzegovina 10% reserve requirement for banks’ deposits –; extending credit by money creation forbidden Bulgaria 8% reserve requirement for banks’ deposits Banking department; scope: systemic risk Source: Compiled from Ho (2002) and recent information from Bank for International Settlements. 73 However, the present-day “quasi-currency boards” are currency boards at least insofar as, first, the national monetary base is strictly backed (albeit to different degrees) by reserves of the anchor currency, and second, there is a passive (on demand) change of national into foreign currency at a prescribed fixed exchange rate. The national monetary base can only expand by a surplus in the balance of payments. Thus, such an arrange- CESifo DICE Report 1/2007 Database ment is an effective means to keep inflation at low levels – more exactly: at the level of the anchor currency. Moreover, a currency board (in contrast to circulating foreign currency in the domestic economy, for example, “dollarisation”) creates some seigniorage revenues. But there are drawbacks too: International de- and revaluations of the foreign anchor currency are passed on to the local currency (one of the reasons why the Argentina currency board experiment failed). The same applies to the interest level which differs only by a risk factor between anchor and local currency. Finally, due to the lack of monetary-y policy instruments like setting the discount rate or influencing the money supply, wages and prices must be relatively flexible (especially downwards) in order to avoid a severe recession. Currency boards today exist mainly in small (often former colonial) countries and in countries that have undergone fundamental systemic reforms. In a small open economy a currency board does not really limit the possibilities for monetary management because in practice they do not exist for such countries. A reform economy, whether big or small, can credibly commit itself to monetary stability by following the rules of a currency board. R.O. Reference Ho, C. (2002), “A Survey of the Institutional and Operational Aspects of Modern-day Currency Boards”, Bank for International Settlements Working Paper 110. CESifo DICE Report 1/2007 74