Cheer not for de-dollarisation

Wong Chin Yoong

De-dollarisation refers to the reduction of the US dollar's dominance of global markets. – The Malaysian Insight file pic, April 13, 2023.

DE-DOLLARISATION didn’t just happen yesterday but has been in the making since former US Treasury secretary John Connally told his European counterparts at the 1971 G10 Rome meeting that “The dollar is our currency, but it’s your problem.”

Dollar hegemony was the thorn in the side of the Europeans, especially the French.

Prior to the end of the Bretton Woods system in 1971, the world currencies were pegged to the US dollar. In doing so, the world was subejct to the effects of the US economy and macroeconomic policies, with the peg serving as a bridge that allowed external shocks to cross the water and land on foreign doorsteps.

When President John F. Kennedy’s tax cut was passed in 1964, along with the military build-up under the Johnson administration for the Vietnam War, the massive fiscal expansion contributed to a growing US current account deficit and an overshoot in the economy, sowing the seeds for decade-long rising inflation.

Because of the unfortunate design of the system, the US was the sole provider of international liquidity (aka dollar reserves) to the rest of the world, running a current account deficit against the pegging countries.

As a result, the pegging nations accumulated mounting dollar reserves, inevitably leading to an over-expansion in the domestic money supply.

In plain English, the US had exported inflation to the rest of the world. The dollar had become the world’s problem.

But if there is a lesson to be learnt from history, it is that abandoning dollar reserves as international liquidity is the wrong way to go as dollar reserves were and still are one of the most important global public goods.

Through the Marshall Plan for Europe and the Dodge Plan for Japan, for instance, the US has provided dollars to finance the imported inputs needed to regain the capacity for exports, averting the risk of countries shunning from the open trading systems after the World War 2.

Let’s not forget that China was the largest beneficiary of the dollar hegemony. China’s miraculous growth since the 1990s was enabled by the influx of foreign direct investment in return for dollar reserves accumulated via a growing trade surplus against the US.

Dollar reserves insured foreign commercial investors against investment uncertainty in China due to political system differences in those days of “reform and opening up”.

Dollar assets remain the most liquid, convertible, and safe assets in the world.

For those cheering for de-dollarisation and “yuanisation” or “vehicle currency nationalisation”, the most fundamental question to address is, are renminbi assets, as well as domestic assets offered by countries participating in bilateral trade invoiced and settled in respective national currencies, as liquid, safe, and fully convertible as dollar assets?

What’s rarely mentioned in the argument for de-dollarisation is the fact that cross-border trade is not settled in fiat currencies but transfer of bank liabilities.

For bilateral trade between China’s importers and Malaysian exporters settled in renminbi, for instance, the payment is made by debiting Chinese importers’ and crediting Malaysian exporters’ accounts in a Chinese bank.

Can Malaysian exporters repatriate the yuan earnings in full at any time at their will? Ask Mark Mobius.

Even when exporters can bring home yuan earnings and contribute to Bank Negara’s “yuan reserves”, are China’s treasury bills comparably liquid with US treasury bills?

If weaponising the dollar reserves to penalise Russia against the brutal Ukraine invasion is seen as the reason for de-dollarisation and “yuanisation”, I don’t see why yuan reserves cannot also be weaponised if deemed necessary by the Chinese government.

It is true that the Fed’s dramatic fiscal tightening since March last year has turned world currencies upside down. But from the macroeconomic management point of view, there is no reason to dislike currency flexibility.

If a currency peg resembles a bridge for incoming external shocks, then exchange rate flexibility is fire to the bridge, halting the marching of the enemy, and buying time for reconsolidation.

Did we suffer from ringgit volatility last year? Not much.

The economy grew 8.7%, employment is at near full while inflation peaked at 4.7% in August and has been receding since.

This was all due to accommodating fiscal and monetary policies enabled by floating exchange rates.

The dollar is your currency, but not my problem until I mess up. So, fear not dollarisation but inapt domestic policies. – April 13, 2023.

* Wong Chin Yoong is a professor of economics at Universiti Tunku Abdul Rahman, Kampar campus.

* This is the opinion of the writer or publication and does not necessarily represent the views of The Malaysian Insight. Article may be edited for brevity and clarity.

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