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Market insight: The greenback hasn’t sunk yet
By Bernhard Eschweiler
Published: December 3 2007 16:48 | Last updated: December 3 2007 16:48
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The figures seem convincing at first sight, but the idea that central banks are undermining the dollar makes neither sense nor is there evidence in the data.
The principle mistake that many commentators make is the assumption that central banks can separate the currency allocation of reserves from their exchange rate objectives. In practice, this is often not the case, especially for the large surplus economies in Asia as well as the oil-exporting countries. These countries all follow some sort of dollar standard, whether it is an outright peg or a dirty float.
So, when they intervene to prevent their currencies from appreciating against the dollar, they get mostly – or even exclusively – dollars (also because most of their trade and capital flows are dollar denominated).
However, it is difficult to sell those dollars back to the market without causing renewed dollar weakness and, thus, trigger new interventions. Some small central banks may get away with it, but not the group of large reserve holders. There is no free lunch: if you shadow the dollar you also have to hold it.
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On the other hand, net new accumulation of dollar reserves was $1,241bn, while inflows into euro reserves were $447bn. So, not only do central banks keep their dollar reserves, but on the margin they also invest more than two-thirds of new reserves in dollars.
So far so good, but what about China, which is not included in the IMF data? (The Cofer data capture roughly two-thirds of global reserves, with China accounting for most of the gap.) Based on US Treasury data, only a third of China’s reserve growth goes into US bonds, which would suggest that China’s share of dollar holdings may be falling.
There are, however, two problems with the Treasury data. First it includes only long-term securities, but not bills and discount notes, of which China is a big buyer.
Second, it does not capture all transactions with counterparties in third countries. China’s central bank, however, trades extensively with brokers in Asia and Europe.
A different perspective suggests that China may actually struggle to keep the dollar share from rising since all of its interventions take place in dollars. Over the first half of the year, China’s reserves grew by $270bn.
Thus, to keep the share of dollars at 70 per cent, which is the level most experts agree on, China would have had to sell more than $3bn per week. This is not impossible, but would have stirred up much more market interest than has been observed.
In conclusion, the dollar is only in danger from central banks if the large reserve holders in Asia and the Middle East decide to go off the dollar standard.
snip
By Bernhard Eschweiler
Published: December 3 2007 16:48 | Last updated: December 3 2007 16:48
snip
The figures seem convincing at first sight, but the idea that central banks are undermining the dollar makes neither sense nor is there evidence in the data.
The principle mistake that many commentators make is the assumption that central banks can separate the currency allocation of reserves from their exchange rate objectives. In practice, this is often not the case, especially for the large surplus economies in Asia as well as the oil-exporting countries. These countries all follow some sort of dollar standard, whether it is an outright peg or a dirty float.
So, when they intervene to prevent their currencies from appreciating against the dollar, they get mostly – or even exclusively – dollars (also because most of their trade and capital flows are dollar denominated).
However, it is difficult to sell those dollars back to the market without causing renewed dollar weakness and, thus, trigger new interventions. Some small central banks may get away with it, but not the group of large reserve holders. There is no free lunch: if you shadow the dollar you also have to hold it.
snip
On the other hand, net new accumulation of dollar reserves was $1,241bn, while inflows into euro reserves were $447bn. So, not only do central banks keep their dollar reserves, but on the margin they also invest more than two-thirds of new reserves in dollars.
So far so good, but what about China, which is not included in the IMF data? (The Cofer data capture roughly two-thirds of global reserves, with China accounting for most of the gap.) Based on US Treasury data, only a third of China’s reserve growth goes into US bonds, which would suggest that China’s share of dollar holdings may be falling.
There are, however, two problems with the Treasury data. First it includes only long-term securities, but not bills and discount notes, of which China is a big buyer.
Second, it does not capture all transactions with counterparties in third countries. China’s central bank, however, trades extensively with brokers in Asia and Europe.
A different perspective suggests that China may actually struggle to keep the dollar share from rising since all of its interventions take place in dollars. Over the first half of the year, China’s reserves grew by $270bn.
Thus, to keep the share of dollars at 70 per cent, which is the level most experts agree on, China would have had to sell more than $3bn per week. This is not impossible, but would have stirred up much more market interest than has been observed.
In conclusion, the dollar is only in danger from central banks if the large reserve holders in Asia and the Middle East decide to go off the dollar standard.
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