the Blog Papers of Dr. Michael Sakbani; Economics, Finance and Politics: July 2023

The Blog Papers of Dr. Michael Sakbani; Economics, Finance and Politics

Michael Sakbani, Ph.D., is a former professor of economics and Finance at the Geneva campus of Webster-Europe and Thunderbird-Europe. He is a senior international consultant to the UN system, European Union and Swiss banks. His career began at the State university of NY at Stoney Brook, then the Federal Reserve Bank of New York followed by UNCTAD where he was Director of the divisions of Economic Cooperation, Poverty Alleviation, and Special Programs. Published over 140 professional papers and co-authored six books.The Intelligent Economist voted in 2020,2021 and 2023 michaelsakbani.blogspot.com as one of the top hundred blogs in the world. Dr. Sakbani is a research contributor to Brill and Kudos who disseminates his publications to research institutions throughout the world. Dr. Sakbani won numerous awards and prizes for scholarly distinction.

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Prospects of the US` Dollar Continuing to be the Prime International Currency

Prospects of the US Dollar Continuing to Be the Prime International Reserve Currency

Dr. Michael Sakbani

The Bretton- Woods Road of the US. Dollar

The 1930`s were years of crisis and of the great depression. The repeated use of currency devaluation to correct payments imbalances, had impressed on policy-makers the desirability, and even the necessity, of finding an international arrangement to stop currency fluctuations, especially when that is used as a policy tool to gain competitive advantage to deal with Payments deficits and to impart stability to the international monetary and financial system.

This is why the Atlantic Charter agreed between President Roosevelt and Prime Minister Churchill had devoted consideration for this question. At the Bretton -woods Conference held after the end of the war, there were in this area two proposals under consideration: John Maynard Keynes‘ proposal to create an international currency called the Bancor and the US` view articulated by Harry Dexter White to create a pool of reserves based on a fixed value of the US dollar in terms of gold and other currencies in terms of the Dollar. Given the power balance at the Conference, it was not surprising that the US` view prevailed, and the Conference adopted a system of reserve currency where the US `dollar was priced in terms of gold at the prevailing price of 1933 of of 35.5 dollars per US` ounce of gold. The Conference recommended that all other currencies be priced in terms of the US‘ dollar. It was agreed also that the US dollar would be allowed to fluctuate against gold by 1.5 percent up and down while other currencies were allowed to fluctuate against the dollar by this same margin (Williamson)[1].

After the end of WW. II, there was a dollar shortage, because except for the US economy, all other economies were destroyed. The world needed US exports to rebuild. However, as Robert Triffin demonstrated at the time, this dollar system had a razor sharp equilibrium: if there were shortages of US dollars, relieving that would require constant US balance defecit, a situation which would put pressure on the value of the US dollar on account of its surfeit (Triffin) [2]. Triffin`s analysis gained interest and various proposals involving revaluation surfaced in the 1960’s, but none gained official acceptance.

In the IMF`s annual Conference held in 1967 in Rio de Janero, the membership approved the proposal to create at the IMF an international currency called the Special Drawing Rights (SDR) to be the central reserve currency. That was, as John Williamson later mused, a triumph of optimism over realism [3]. The IMF activated the SDR by a 9.5 billion SDR distribution over three years. But the SDR was born with numerous deliberate defects, and attempts at fixing these defects never convinced the main trading countries to accept the SDR. In the meetings of the C20 held over two years (1971-1973) to reform the International Monetary System, SDR distribution was controversial, with the developing countries wanting a bias in their favor by their proposal of the "link"and the principal trading countries refusing to acquire the SDR beyond a certain limit. Developed countries argued that extending aid to develoing countries is a sovereign decesion which cannot be made by a biased distribution of the SDR. There was another attempt to distribute SDR at the time of the Soviet Union break-up in 1991, with the purpose to extend aid to the former socialist countries, But this was shot down by the developing countries, who wanted equal consideration .In the subsequent years, the prospects of the SDR came to naught (Sakbani,1985)[4].

By the early 1970s, the US dollar official stocks in Central Banks reached over $ 170.0 billion while the US`gold stock was only $14.0 billion. If Central Banks were to exercise their right under the Articles of Agreement, to ask the US for converting some of these balances into gold at the official IMF price, as did France repeatedly, the US would be incapable of meeting its obligations under the Agreement. Thus, President Nixon decreed on August 13, 1971, that henceforth the US would discharge its obligation of converting into gold at the prevailing market Price. At that date, the market price of gold hovered around $180 per US`ounce (Wikepedia," the Nixon Shock") [5]. In effect, what this decision meant is the end of the Bretton Woods dollar exchange-rate system (Author`s note).[6]

There were two Smithsonian Agreements to re-establish the exchange rate system in 1972 and 1973. the first one was really a kind of tinkering with the old system. The second, however, went essentially to allow generalized floating with the dollar still the dominant central reserve currency. Members of the IMF under this system can peg to the US dollar, to a basket of currencies or to the SDR. The IMF later ammended its articles of agreement ex post facto to legalize this situation. This mixed system is still with us till today.

Does the US Have the Characteristics and the Record of a Central Reserve Country?

The US is a major trading country, only China can be compared to it according to current statistics. It is also the major pole of international capital flows (Google)[7]. The US has the largest capital markets in the world with high calibar financial expertise. Only London comes close to it in foreign exchange (Google)[8]. The US is also an open economy with solid liberal legislative regulations. Thus, it has, prima facia, all th e attributes of a viable reserve country. That means US- dollar financial assets are liquid, resilient to fluctuations, solvent and secure. However, the record of US`economic performance, its politics on its sovereign debt in the last 30 years, and its payment and fiscal postures are not healthy.

Since the early 1960`s the US current account balance has been only a handful of times in surplus. Although the capital balances did in some years finance these deficits, the general trend has been a chronic deficit averaging - $58.5 billion between 1960 and 2022. (Google statitics) [9]. Moreover, US `household saving is minuscule, and was negative in many years. This means that the US writes checks on itself without earning assets like every other country. It is beyond the scope of this paper to go into the reasons for the underlyig weak competitive position. However, a combination of US international Corporate behavior, Globalization as practiced, and a decline in productivity in certain sectors, all are behind these phenomena.

The divided internal politics of the US, and the polarization of its public opinion, have resulted in playing games with its credit standing. Along with Denmark, the US has a curious debt-ceiling law. The law provides that there has to be Congressional approval to increase the debt ceiling if it is reached when the Federal Government has to borrow to fund already approved expenditures. Before 1991, raising the debt ceiling was routine; since 1947, the debt ceiling has been lifted 72 times. However, since 1991, the threat to refuse increasing the debt ceiling, i.e., defaulting on paying US `debt, has happened many times. Congressional Republicans have used the debt-ceiling to stop the run-away chronic Federal deficit. Ironicaly, limited Government and balanced budget have been remembered by the Republican Party mainly when the Democrats are in power (author`s note) [10]. Therefore, the Republican Congressional majority in the Lower House has threatened four times in the last three decades to lock out the Federal Government ability to borrow. Even though this was done only twice and for a short time, default on Federal obligations severely undermines the credit standing of the US. There is no doubt that sooner or later the credit rating agencies will lower the US credit rating. Holders of US federal obligations, like China, Russia, Saudi Arabia and others, are quite justified in looking for viable alternatives to holding dollars if they can find them.

Another problem is the weaponizations of the dollar clearing system with respect to countries under US` sanctions. This has been used in recent times against Iran, Russia, Venezuela, Cuba, Iraq, Libya, Sudan, Lebanon and Syria (US. Treasury)[11]. Clearly, the repeated use of financial sanctions against adversary countries does not sit in harmony with the dollar international status, and the system of free and impartial clearing system.

The Eclipse of the Petrodollar

Saudi Arabia in the 1970S entered into a de facto understanding with the US that in return for US military protection and financial security of Saudi deposited assets, it would price its oil exports and get paid in US dollars. In addition that Saudi Arabia convinces the other OPEC oil exporters to do the same. Saudi Arabia`s exports of oil reached $ 138 billion in 2023, while total Opec exports are three and a half times that.[12]. This understanding was found acceptable by the other members of OPEC. Thus, the dollar became not only the pricing unit of account for the petrol trade, but also its settlement currency. Given the volume and value of the oil-gas trade, the position of the dollar was considerably strengthened by this arrangement [13]

Recently, the US - Saudi relations have entered into an underlying mistrust. The US did nothing to protect Saudi Arabia against missile attacks on its oil-gas production facilities by Iran. The Biden Administration has spoken ill of the de facto leader of Saudi Arabia prince Mohammad bin Salman (MBS) who has been accused of killing the journalist Khashoggi and of perpetrating a number of other human-rights violations. In his election campaign, President Biden promised to make Saudi Arabia a paraia state.

Faced with that, MBS realized that monopoly dependence on the USA is not sensible. So, he embarked upon diversifying the Knigdom`s alliances. After the recent visit of President Xi of China, to Saudi Arabia, the kingdom signd an agreement with China to pay for its oil imports with Yuan. Given the size of these imports, which makes China OPEC`s largest oil importer, if other members of OPEC follow the Saudi example, a substantial proporttion of the demand for the dollar would disappear. That would be a considerable challenge to the dollar position[14]. Coupled with President Putin insistence on paying for Russia’s energy exports in Ruble,the agreement signed with India to pay in Rupees, these events reduce the demand for dollars and are clear challenges to the international status of the dollar.

Are There Alternatives

All of the above has raised justified questions about the admissibility of the dollar international reserve status. At one time in the late 1990`s, the Euro was thought of as a possible alternative to the dollar. But despite the great importance of the EU in international trade and in international capital flows, the Euro did not live up to these expectations. Today, the dollar accounts for close to 60 percent of Central Banks reserves while the US economy is only 24 percent of world economy. The Euro whose economy is about the same size as the US economy stands at 20 percent of such reserves (Google, April, 2023) [15]. The question arises about the reasons for this difference in status. The answer is that the dollar is the currency of a country which approximates an optimal currency area. The US has one federal Government with fiscal policy and federal transfer payments that covers all the states, whereas the EU does not have one fiscal policy and no compensating transfers to all the EU countries when in payments troubles. Moreover, the EU is composed of countries with different payments positions and with different bank regulations. Should economic exchange among US states results in winners and losers, the consequent movements in labor and capital and the federal fiscal transfers would adjust that. In Europe, by contrast, there are winners and losers and labor movements is hampered by sociological and linguistic differences. Therefore, whereas the US approximates an optimal currency area, the EU does not do that. Thus, the Euro has basic handicaps. (Sakbani, 2005)[16].

The question is raised whether the Yuan or the Ruble are capable of being international reserve currencies? Objectively, the answer is a flat No. Both China and Russia are state controlled economies with restricted and small capital markets. Their records of unfetered economic exchanges is non- existent and there are no checks on their executive actions.

The combined impacts of the challenges to the dollar position discussed above have indeed reduced Central bank reserves from 71 percent to the current 59 percent in the last twenty five years (IMF blog) [17] . What is likely to happen is that while the US dollar will remain the prime reserve currency, other countries are likely to estblish their own clearing arrangemnt. In other words, we might move to a multiple clearing systems with other countries curruncies being used in proportion to their share in intrnational trade and finance. Indeed, the BRICS group, representing major trading countries and possessing with a considerable potential for expansion, has had establishing settlement arrangement outside the dollar as a main item on its agenda.( Authors comment)[18]

In conclusion, the world seems destined to plod willy nilly on the dollar path for some years to come. But the long term prospects of the US dollar are certainly far from certain.

( Geneva; 20/6/ 2023.)

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Notes

[1] John Williamson, Failure of World Monetary Reform, Chapter 1, the Brtton Woods, pp.1-28 has a history of the System and the establishment of the IMF.

[2] Robert Triffin, Gold and the Dollar Crisis, Yale University Press, New haeen ,1960

[3]Williamson, Op.Cit, Ch. 1, 2.

[4] Michael Sakbani, "the Crisis of the International Economic System", in Trade and Development, No. 6, 1985, pp.149-193, part 1.

[5] Wikipedia consulted on June 12, 2023.

[6] The so called « gold exchange standard » was not completely fixed. It was adjustable if the IMF sees that a country is facing a fundamental payments deficit. This fixity with adjustability assumes a certain official price of gold. By freeing the US from its commitment to convert official dollar balances at the 1033 the system lost its bases.

[7] the US trade relations with more than 200 countries, territories, and regional associations around the globe. The United States is the 2nd largest goods exporter in the world, behind only China. U.S. goods exports to the world totaled $2.1 trillion in 2022, up 17.5 percent ($307.3 billion) from 2021. The U.S. equity markets are the largest in the world and continue to be among the deepest, most liquid and most efficient, representing 41.1% of the $107 trillion global equity market cap in 2023, or $44 trillion. This is 3.6x the next largest market, China.28 average of 2023

[8] According to the BIS`statistics :trading in OTC FX markets reached $7.5 trillion per day in April 2022 ("net-net" basis,³ all FX instruments), up 14% from $6.6 trillion three years earlier.

· The US dollar was on one side of 88% of all trades (unchanged from 2019). The share for the euro decreased marginally to 31% (from 32% in 2019), and those for the Japanese yen and the pound sterling remained unchanged at 17% and 13%, respectively. The renminbi's share rose to 7%, making it the fifth most traded currency in 2022 (up from eighth place in 2019 with a 4% share).

· Trading at sales desks in five jurisdictions – the United Kingdom, the United States, Hong Kong SAR, Singapore and Japan – amounted to 78% of all FX trading ("net-gross" basis). Trading activity in the United States and Singapore grew by more than the global average.

[9] Statistics on US balance of payments are available in the US feeral reserve statistics and the US commerce departemnt statistics.. According to google summary offrom these sources, current Account in the United States averaged -57.05 USD Billion from 1960 until 2023, reaching an all time high of 9.96 USD Billion in the first quarter of 1991 and a record low of -283.90 USD Billion in the first quarter of 2022.

[10] the Republican Party stood in the past for, inter alia, small government with no fiscal deficit. President Reagan ran in 1981 on a platform to have a constitutional amendment to this effect. After he was elected, he ran during his eight year presidency a larger deficit than all his predecessors pu together. After him President George W. Bush ran a bigger deficit than Reagan. and not to be outdone President Trump left office with a bigger deficit than anybody before him. President Biden continued this practice of spending without constraint.

[11] see https//ofacTreasury.gov,sanctions and countries , 2023.

[12] The OPEC member states exported a combined total of nearly 19.7 million barrels of oil per day in 2021. Of that, some 5.2 million barrels went to China. In that same year, the average annual OPEC crude -oil price was some 69.72 U.S. dollars per barrel. That results in total exports of $1,373.480, see, Jesica Aizarani, OPEC exports destinations, June 14, 202

[13] In 2021, Saudi Arabia exported $138B in Crude Petroleum, making it the 1st largest exporter of Crude Petroleum in the world.

[14] China`s imports of Saudi oil are: Crude Petroleum ($38.3B), Ethylene Polymers ($2.19B), and Acyclic Alcohols ($1.81B). During the last 26 years the exports of Saudi Arabia to China have increased at an annualized rate of 20.4%, from $392M in 1995 to $48.7B in 2021.China is OPEC`s largest oil importer.

[15] As of the end of last year, the U.S. dollar accounted for 60% of total allocated currency reserves held by central banks. That corresponds to the 80% of total foreign exchange reserves allocated to the dollar and euro held by central banks at the end of last year. The dollar accounted for 60% and the euro 20%.17 avr. 2023

[16] See Michael Sakbani, " A Re- Examination of the Architecture of the International Economis System in a Global Setting: Issues and Proposals", in UNCTAD, Discussion Paper no. 181, October 2005

[17] SSarkan Arslanalp & Chime Simpson bell, "US Dollar Share of Global Foreigne Exchange Resrves Drops to Twenty Five Year Low", IMF Blog, May 5, 2021.

[18] BRICS is an abreviation of Brazil, Russia, India, China and South Africa. This group accounts for roughly 20 percent of the world economy. Indonisia, Saudi Arabia, the UAE and Turkey have applied to join this group.

the Blog Papers of Dr. Michael Sakbani; Economics, Finance and Politics

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Thursday, July 06, 2023

The Prospects of the US Dollar Continuing to Be the Prime International Reserve Currency