Tim Cohen
13 July 2009
column
Johannesburg — THE issue of the decade might be solving the global financial malaise, but the issue of the first half of this century will undoubtedly be the rise of the new economic powers, led by what are known as the BRIC countries (Brazil, Russia, India and China).
A tiny corner of the curtain on this mega issue was raised last month with the BRIC talks in Yekaterinburg. This group developed as part of financial or investing folklore, but the way the idea has germinated and grown suggests one of those sweep-of-history developments that moves rapidly from concept to practice -- an idea whose time has come.
The venue itself was symbolic: a fast-emerging, modernising Russian city on the Chinese side of the Urals. All four heads of state attended the function to inaugurate the group, but its function remains fluid. It could take the form of a lobby group inside the G-20 or a counterpoint to the G-8.
Yet the interesting part of the more immediate agenda was the extent to which a new reserve currency dominated the talks. For SA and many other emerging countries, this is an interesting development with practical consequences.
One of the biggest challenges for all developing nations is to maintain a stable currency when you are such a tiny ship on a sometimes weirdly undulating sea.
Currency shifts have dramatic implications for inflation and profitability of export industries, but seem to have little relation to actual economic performance.
The most frequently used mechanism is to fix the currency against the dollar, but this too has its dangers, as the emerging market crisis in 1997-98 showed.
For other reasons, currency issues are top of mind for China and Russia. When US Treasury Secretary Tim Geithner told students during a lecture at a Chinese university that the Beijing government's enormous investments in US bonds were absolutely safe, the students started laughing.
Well may they laugh. It's hard to imagine any other government surviving after losing so much (2-trillion) investing in financial instruments of another country.
The currency issue is especially pertinent as it is where the issue of the decade (the financial crisis) and the issue of the first half of the century (emerging economic hulks) intersect.
Interesting RBC Capital Markets research suggests BRIC countries are pressing for the world to move away from using the dollar as the world's primary reserve currency as they claim America' s "economic and financial quagmire and the ensuing fiscal and monetary policy response are leading to unsustainable deficits, an explosive debt trajectory and dangerous levels of money supply creation that endanger the long-term stability of the US dollar, seriously undermining its lure as a reserve currency".
For most developed countries, a currency with the profile or character suiting their needs would be a great advantage. One of the biggest, most intractable problems of the democratic era in SA has been the seemingly unfathomable rise and fall of the rand, one of the strongest currencies globally so far this year, would you believe.
Modern developments also make the idea of a different reserve currency seem less of a pipe dream. The arrival of fiat currency initially loosened the bonds, but the most immediate issue was the euro's success. The currency has lasted almost a decade, despite many economists entertaining the possibility of a disastrous collapse. It has gradually, albeit marginally, tightened its hold on global foreign currency reserves at the expense of the dollar, which remains the dominant force with about 70% of declared foreign currency reserves denominated in the US currency.
The RBC research asks whether it is actually in the BRIC's best interests to move away from the dollar as a reserve currency, and its answer is: "In the long term, there are tangible benefits from increasing diversification of FX reserves over several decades as a means to reduce risk and improve returns.
"However, a hasty move away from the US dollar is in no one's best interests, least of all emerging markets, which depend greatly on trade relationships with the US and integration with global financial markets, which remain deeply centred around the US dollar."
There is also an important difference between the countries that try to manage their currencies lower, like China, to improve the competitive position of exporters, and countries whose commodity exports are denominated in dollars and which don't want to see too dramatic a decline in the value of the dollar.
But practically speaking, how would the BRIC countries, or the developing world, establish an alternative reserve currency?
There are two possibilities: one is to develop regional currencies until they could be "globalised", which could be characterised as a slow track. The other, the faster track, would be to develop the IMF's special drawing rights as an alternative currency.
BRIC currencies all have a litany of current and capital account foreign-exchange controls.
The Brazilian real, the Indian rupee and the Chinese yuan are all "nondeliverable" currencies. Hence, the buyer is not permitted to take delivery of them outside of their domestic financial systems.
Custody and warehousing of foreign denominated securities is also restricted, something South Africans know lots about.
SA could and should support a "developing market" currency.
But that's impossible without a less restrictive currency market. Perhaps the best thing that will come out of the debate will be a less restrictive international currency market, including here.
Aspiration is, after all, the supreme motivator.
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