World Reserve Currency. II.

In response to a question, the reason for these posts about a "World Reserve Currency" is the recent public suggestions by Red China and others that a new reserve currency replace the US dollar. In my thinking about the matter, the realization that those proposing such and the pundits discussing same had no understanding about what they were bloviating quickly become evident.

Yesterday the general criterion for a currency to be a "World Reserve Currency" were listed and the defects of gold and silver for such role were explained.

Today I elaborate on criterion I, viz. "The currency is held by central banks of many nations to provide a base of value for their local currencies."

The currency is, or will be, held by the central banks of many nations to provide a base of value for their local currencies. That's what being a "reserve currency" means, The Reserve Currency is the core monetary base of those nations, in addition to whatever small amounts of gold or silver they own. Let's call the Reserve Currency "RC" for neutrality of the discussion, and the various local currencies "LC". The money supply of those nations becomes inextricably tied to the amount of RC their central banks hold. If the nation expands LC too much compared to its RC, it will likely experience inflation and the perception by its people that the value of their LC is being diminished.

The nation will need RC for this international trade. If too much LC exists and creates more and more demand for imports (that must be paid in RC), that demand for RC to purchase those will slowly drive down the value of LC. Temporarily this demand for RC can be filled by loans. But the amount of loans is limited or default risk grows too large. Thus one can see that the nation must have some net inflows of RC - Reserve Currency - broadly over the long term to have an LC - local currency - that maintains its value.

One can see how and why the local currencies of nations like Argentina and Ukraine can collapse: they simply run out of dollars for international trade and debt service as too much local currency is printed compared to the amounts of reserve currencies they hold. And one can see that without the RC, the population of the nation will be unable to operate in international trade or to purchase anything not produced internally. That people will lose confidence of the local currency's value quite rapidly in any crisis or stress. Such a government can maintain the value of the LC internally only be restricting the freedom of the people at act in international trade, whihc means foregoing the enormous benefits of having a free economy with free people.

Tomorrow I address Criterion II. Over this week I plan to explore all the dimensions of this fascinating subject.

Goldman, Sachs

Hmmm ... GS wants to sell stock to be able to pay its employees more. Is that a reason to buy the stock ? I think not, without serious pay cuts over prior practice. Let them buy it themselves and go private.

Word of the Day

"Temerity" - noun [$10]; from the card file
Temerity means 1. rashness; 2. audacity, impudence.
Sentence: I suppose one could call it temerity for Red China to suggest a new world reserve currency is needed, but I call it simple stupidity on the part of leader of its Communist Party on what the economics of freedom are.

Le Mot du Jour

"Raillerie" - noun, feminine.
"Railleur, railleuse" - adjective and noun (M form)
"Railleusement" - adverb
Raillerie means mockery, scoffing.
Railleur means (adjective) mocking, derisive; (noun) scoffer, mocker.
Railleusement means mockingly, derisively, scoffingly.
La Phrase: L'homme du bunker est le railleur du dirigeant de Chine rouge aujourd'hui.
Sentence: Bunkerman is the mocker of the leader of Red China today.