More Whining About the Dollar

Another country has been heard from on the subject of dollar dominance. India has joined Russia and China in pressing for reforms to the world’s financial system.

From Bloomberg:

Suresh Tendulkar, an economic adviser to Indian Prime Minister Manmohan Singh, said he is urging the government to diversify its $264.6 billion foreign-exchange reserves and hold fewer dollars.

“The major part of Indian reserves is in dollars — that is something that’s a problem for us,” Tendulkar, chairman of the Prime Minister’s Economic Advisory Council, said in an interview yesterday in Aix-en-Provence, France, where he was attending an economic conference.

Singh is preparing to join leaders from the Group of Eight industrialized nations — the U.S., Japan, Germany, Britain, France, Italy, Canada and Russia — at a summit in Italy next week which is due to tackle the global economy. China and Brazil will also send representative to the summit.

As the talks have neared, China and Russia have stepped up calls for a rethink of how global currency reserves are composed and managed, underlining a power shift to emerging markets from the developed nations that spawned the financial crisis.

Frankly, this is all beginning to sound like so much hot air. You know as well as I that there the alternatives are few and far between for any country holding dollars. The idea that the U.S. or any other country is going to allow some supra-national body to monitor its fiscal and current account deficits is a pipe dream.

No matter what store of value a country chooses to put its foreign reserves into, there is going to be some risk of adverse events. Any system that works towards lessening the risk to the holder of excess reserves has to at the same time work to the detriment of the supplier of the reserves. The supplier of the reserves has little incentive to voluntarily sacrifice to better the lot of the holder of the reserves since the asset it provides is in demand. Effectively, the supplier of the reserves holds the high cards.

No one is holding a gun to the heads of the BRICs. They can diversify whenever they wish. Selling their vast holdings of dollars quickly would of course work against their own currencies via-a-vis their exchange rate with the dollar. Since most of them tend to manage their currencies in a manner that undervalues them this isn’t an outcome that’s desirable from their viewpoint. So they find themselves caught in a paradox. Their solution at this time seems to be for greater external control of U.S. economic policy. That’s never going to fly so they need to figure out some other alternative or resign themselves to blowing more hot air.

Comments

[TradingHelp...:]

Russia, India and China should be careful what they wish for (less exposure to the dollar). If US unemployment stalls the recovery and we see a double-dip, whilst the rest of the world sees relative improvement, we could see a run on the dollar if the big 3 named above hint too strongly they want to diversify.

Jul 05 02:20 PM

[Clive Corcoran:]

Re Michael Young's comment about being careful what you wish for.
The sad irony is that with or without the BRIC countries attempting to map out a safety net we could still be headed for a run on the US dollar.
Also the author of the article seems just a tiny bit complacent in saying
"Their solution (i.e. the BRIC nations) at this time seems to be for greater external control of U.S. economic policy. That's never going to fly...."
In the current quagmire one should never say never!

Jul 05 02:31 PM

[Mad Hedge F...:]

There's a trade here. The stage is now set for the dollar. With the US 20 months into a recession, it’s just a matter of time before the Fed pull us back from zero interest rates. With the ECB late to the funeral, European Central Bank president, Jean-Claude Trichet, last week reaffirmed his commitment to keep their benchmark rate at 1% to restore the economy. There’s your trade. The next move in the euro/dollar spread will be in favor of the greenback, as the US will be the first out of recession. On top of that, you can pile a fading US stock market and a back off in commodity prices, which are also dollar positive. Thus, you can expect the euro to trade down to the low $1.30s. Mind you, this is still a counter trend trade, which I generally try to avoid. Anyone reading the National Enquirer knows the dollar is going down long term, and even my cleaning lady has a major position in the futures. Thus, the street is overdue for a spanking, the inevitable outcome when there are too many one way bets. I still think it will cost two Euros to buy a buck sometime in the foreseeable future. For those hardy souls willing to scoop up some pennies in front of a steam roller, look at the 200% short euro ETF (DRR), which has backed off 34% from $63 to $42 since November.

Jul 05 05:16 PM

[Roger Knights:]

I think it's hot air (an alternative currency is not feasible), but there's a method to their madness: Big dollar-holders are trying to jawbone the US gov't. into greater fiscal discipline--i.e., smaller deficits. That's what the Chinese told Hillary and Geithner. It's an obvious and necessary attempt on their part. If they DIDN'T attempt jawboning, it would be imprudent stewardship of their reserves, even if the benefit would be small. It can't hurt, and it might help. In their position, we'd do the same.

The next step, if US spending plans don't decline, would be for their central banks to buy more gold. Central banks seem to be curtailing their sales, and may soon stop selling.

Jul 05 05:46 PM

[nun:]

Is anyone surprised? India basically sided with the Soviet Union in the past. Working with the US has only been out of mutual interest, and India is no ally.

Jul 05 07:25 PM

[Moon Kil Woong:]

Sure let the BRICs sell US$. When their economy drops or their currency tanks again they'll be very sorry. USD has been their single best defense against a run on their currency.

Of course, China thinks it doesn't have to worry since it's currency is not freely tradable on the market. But I contend, a China without US dollar reserves itself would look a lot less stable. Especially, if their exports keep dropping and their currency was 100% higher to the USD. If it want's lass US exposure it could always appreciate its currency, cut exports, and stop running a trade surplus with us. The fact that it doesn't lets you know their complaining is a lot of posturing.

Jul 06 04:12 AM

[TinyTim:]

Good title.
BRIC got into their situation with open eyes and it's a sticky one.

Jawboning the dollar via fiscal policy is just hot air and wishful thinking.

The dollar is the "defacto" reserve currency not by proclamation, but because of volume and relative strength and marketability. Changing the rules of the game now isn't going to happen, especially by "emerging" countries who in a few cases had pegs to the dollar.

If and when the dollar starts to fall, some other currency (or asset) may take it's place, but I doubt it will be determined by anything but the markets.

Jul 06 02:07 PM