Harold James: China’s Renminbi Seen as a Major Reserve Currency





[Harold James is professor of history and international affairs at Princeton University and Marie Curie professor of history at the European University Institute, Florence. His most recent book is The Creation and Destruction of Value: The Globalisation Cycle.]

Fears about sovereign debt and doubts about the euro rescue package have pushed the question of international reserve currencies to the fore. Until this spring, most observers had assumed that the share of the dollar in international reserves would gradually fall, while that of the euro would rise, and that the world would gradually and smoothly make a transition to a multi-reserve regime.

Up to now, the global financial crisis was historically remarkable in having no major impact on foreign-exchange markets. The shares of the major reserve currencies were stable, with the dollar accounting for 62% of foreign-exchange reserves in 2009 and the euro 27%. Any major changes came not from deliberate decisions by central banks to reallocate reserves, but rather from the simple arithmetic of changing exchange rates: a stronger dollar raised the dollar’s share in total global reserves, while a weaker dollar reduced it....

The euro crisis has challenged the view that the transition to a multi-reserve regime will have a smooth dynamic. Asian and Middle Eastern central banks with large euro reserves have become jittery about the euro’s political underpinnings. But America’s large fiscal deficit, along with continuing uncertainty about its financial markets, mean that the dollar is also potentially vulnerable.

There are some historical precedents for this situation. In the 1960’s, the British pound was the world’s second reserve currency. American policymakers expended considerable effort devising ways to support the pound, because they knew that the same factors that made the pound vulnerable also threatened the dollar. The pound was thus seen as part of the dollar’s perimeter defence. Critics saw it as a case of two lame ducks propping each other up....

The 1960’s analogy raises the question of whether and when a new major international currency could emerge. Within the space of a few years, the pound’s reign as a trusted international currency was over. The yen and the Deutschemark emerged as new potential reserve currencies, although the Japanese and German governments and central banks were profoundly worried about this new role for their currencies and the volatility that it might entail....

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