Do we need a global central bank and a global reserve currency?
In 2015, the World GDP (WGDP) totaled about $77.8 trillion ($45.73 trillion in 1990 US dollars) and the per capita GDP was $10,400.
During the past eight years, the WGDP grew at about 3.4 per cent a year. In 1960, the WGDP was $6.85 trillion (1990). The WGDP was just $1.1 trillion in 1900 and took half a century to grow fourfold to $4.01 trillion and grew tenfold in the next fifty to $41 trillion (1990).
The big leaps began after 1971 when then US president Richard Nixon unilaterally delinked the US dollar from the international gold standard. The USA could now print dollars unfettered by the need to have gold to back it up.
The total world trade in 2013 was $37.7 trillion, with China (including Hong Kong) being the biggest player, accounting for $5.31 trillions. The top five global traders account for $19.11 trillion or 50.6 per cent of global trade.
Almost a quarter of the global trade is accounted by the USA, Germany and Japan. The EU share of world trade is $4.49 trillion and the USA’s is $3.91 trillion also accounting for about a quarter of world trade.
The total world reserves in 2014-Q2 was $12.00 trillion, of which 60.7 per cent was held in US dollars, 24.2 per cent in euros, 4 per cent in yen and 3.9 per cent in UK pounds. Since the reserves are mostly in US dollars and euros, the issuing countries have little reason to hold much as reserves.
The USA’s total reserves amount to about $139 billion. Germany, France and UK even less. Contrast this to India’s $298 billion and China’s $4,055 billion.
 |
| In effect the rest of the world was plying the USA with cheap credit, encouraging it to splurge even more. (Reuters) |
In 1995, advanced economies held around 67 per cent of total foreign exchange reserves. By 2014, the picture had been flipped on its head: emerging and developing countries held 67 per cent of total reserves. Emerging countries now hold roughly $6.8 trillion in reserve currency.
Now let’s turn to see how the system actually works. The emerging countries produce goods and services at the lowest costs for consumption in the USA, which in turn pays them in dollars, which they in turn deposit in US banks.
Since money cannot sit still, this money in US banks is then lent to Americans, who today have the highest per capita indebtedness in the world, to splurge on houses, cars, LED TVs, computers and PlayStations, which they can often ill-afford.
The cumulative debt of US households is now $11.4 trillion. Based on an analysis of Federal Reserve statistics and other government data, the average household owes $7,529 on their cards; looking only at indebted households, the average outstanding balance rises to $16,140. There are 160 million credit cards in the US.
The irony is that this is well understood, but like the people who kept investing with Bernard Madoff, countries like China, Russia, Japan, Kuwait, India and others keep investing in US securities at interest rates mostly between one-two per cent. Thus, in effect the rest of the world was plying the USA with cheap credit, encouraging it to splurge even more.
Unfortunately, there was and is no global regulator to caution the US on its profligacy or force it to mend its ways. There is also no global regulator who can ensure that countries like China balance their trade.
Thus, it is US profligacy and Chinese surpluses parked in US banks that are the biggest cause of this dysfunction.
The international system forged at Breton Woods in July 1944 was unilaterally abrogated when in 1971 US President Richard Nixon US delinked the dollar from the gold standard.
In the absence of a standard and a useful regulatory function for the IMF, the great private banks on Wall Street were given a licence to run amok. We are now reaping the bitter harvest.
The fact that the US has been the world’s biggest deficit country for several decades and with increasing deficits with most countries seems to have eluded the IMF.
This and the fact that the US dollar has become the world’s preferred reserve currency is now the core of the world’s greatest financial problem.
With the US dollar as the world’s preferred reserve currency, the US and its even more profligate citizens have an apparently endless access to easy credit to satiate their sundry appetites. In this way the ever growing annual US trade deficit becomes the de facto engine of growth for many export dependent economies, such as China, Germany and the ASEAN countries.
The post Cold War era has seen the economic and political rise of a host of nations - Brazil, China and India being foremost among them. Each one of these nations is now a major economic player with bigger GDP’s than many in the G7.
The economic balance of power is shifting towards Asia. Jim O’Neill, the Goldman Sachs economist who was first to coin the acronym BRICS, how predicts: “It's likely that the combined GDP of the four big BRIC nations will exceed that of the G7 by 2020.”
Since the USA and Europe do not see it as being in their interest to reform the system, it devolves upon these world growth engines to bring more order into the world system.
Like Communism, the ideology of the Washington Consensus has also been proved to be a failure. It is time we revisited Lord Keynes’ proposal for a global reserve currency and consider establishing a system to regulate and manage it.
That would be to take globalisation to the next level.