lecture 10 - the future of the IMS: prospects and reforms Flashcards
what are the two channels for which safe asset shortage can be solved
demand side channels and supply side channels
what is a significant freaction of the demand for international reserves due to?
it is due to precautionary strategies to self insure against trade and financial shocks
what is the effect of incomplete markets on international levels and insuring against shocks?
If markets were complete at international levels, countries would be able
to insure against the shocks.
▪ E.g. Country X could buy an asset today from country Y that pays off in
case of a negative shock tomorrow while selling an asset to country Y
that pays country Y in case country X has a positive shock.
▪ Since such contracts/financial assets do not exist, countries end up saving
too much by accumulating non-contingent assets whose return does not
depend on economic circumstances (safe assets).
what are the three solutions proposed by Farhi, Gourinchas and ray 2011 to reduce the demand for reserve assets ?
1) systematise swap agreements between central banks, centered around the IMF
2) expanding the IMF loan facilities
3) Pool reserves at the IMF level
what is the old view of increasing the supply of reserve assets?
economic and monetary dominance go hand in hand
network externalities are very strong
first mover advantage matters giving rise to lock in effects
international currency status resembles a natural monopoly
only a significant shock can cause agents to coordinate and shift from one equillibrium with one dominant currency to another equillibrium with another dominant currency
what is the new view of increasing the supply of reserve assets?
new evidence shows that sterling shared the international currecny status with the dollar in the 1920s, indicating multiple currencies can coexist
during the gold standard, the sterling was dominant but not to the same extent as the dollar today
new evidence shows that network effect have become weaker after the end of the bretton woods
technological progress means that it is easier to trade in foreign exchange markets, at lower costs as compared to the past
what is more likely to occur, SDRs or crypto currencies?
`It is difficult to envision the creation of an international reserve
currency that is not issued by any nation. Fundamental aspects of any
reserve currency are the fiscal capacity of the issuing country and the
liquidity and the market reliability of its treasury bonds
why might a multipolar world be a more stable world?
by increasing the supply of reserve assets, a multipolar world would solve the triffin dilmma. the fiscal capacity is now determined by a collection of countries, not just one. more countries would be able to benefit from the exorbitant privilege
because of the rise in the degree of substitution between different reserve assets, a multipolar world would limit fluctations in exchange rates
why would a multi polar world be a riskier world
the high degree of susbtitutatibility among currencies might give rise to abrupt and volatile capital flows following changes in fundamentals or beliefs about the fundamentals. for instance, bad fiscal news in the US would lead to reserve holders to diversify out of dollars into euros or renminbi causing a sudden stop in the US coupled with a massive depreciation of the dollar. crises could be more severe due to strategic complementarities among investors: incentives to sell follars before others do so
this might lead to more restrictive fiscal polices reducing the supply of reserve assets endogenously
how might currency invoicing reduce asymmetries?
if firms were to price their goods in the IMFs unit of account Special drawing rights (SDRs) there would be greater symetrry in the impact of exchange rate shocks for inflation.
since the SDRs is based on a basket of countries, fluctuations in the exchange rate of a single currency would have a lower impact and less spillovers
however there is an issue of how to get firms globally to coordinate the use of SDR
how does global financial cycle reduce asymmetries?
the transmission of the US monetary policy through the balance sheet channel is due to the dollar denomination of foreign debt for developing or emerging economies
however the original sin does not seem to be related to institutional quality, level of development, monetary credibility or fiscal solvency. rather the absolute size of the economy is more important
not a lot that developing countries can do to limit their exposure
