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Why the Euro Will Rival the Dollar

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  • Menzie Chinn
  • Jeffrey Frankel

Abstract

The euro has arisen as a credible eventual competitor to the dollar as leading international currency, much as the dollar rose to challenge the pound 70 years ago. This paper uses econometrically-estimated determinants of the shares of major currencies in the reserve holdings of the world’s central banks. Significant factors include: size of the home country, rate of return, and liquidity in the relevant home financial center (as measured by the turnover in its foreign exchange market). There is a tipping phenomenon, but changes are felt only with a long lag (we estimate a weight on the preceding year’s currency share around .9). The equation correctly predicts out-of-sample a (small) narrowing in the gap between the dollar and euro over the period 1999-2007. This paper updates calculations regarding possible scenarios for the future. We exclude the scenario where the United Kingdom joins euroland. But we do take into account of the fact that London has nonetheless become the de facto financial center of the euro, more so than Frankfurt. We also assume that the dollar continues in the future to depreciate at the trend rate that it has shown on average over the last 20 years. The conclusion is that the euro may surpass the dollar as leading international reserve currency as early as 2015.

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Bibliographic Info

Article provided by Wiley Blackwell in its journal International Finance.

Volume (Year): 11 (2008)
Issue (Month): 1 (05)
Pages: 49-73

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Handle: RePEc:bla:intfin:v:11:y:2008:i:1:p:49-73

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Cited by:
  1. Aizenman, Joshua & Marion, Nancy, 2011. "Using inflation to erode the US public debt," Journal of Macroeconomics, Elsevier, vol. 33(4), pages 524-541.
  2. Malliaris, A.G. & Malliaris, Mary, 2011. "Are oil, gold and the euro inter-related? time series and neural network analysis," MPRA Paper 35266, University Library of Munich, Germany.
  3. Robert N McCauley & Catherine R Schenk, 2014. "Reforming the international monetary system in the 1970s and 2000s: would an SDR substitution account have worked?," BIS Working Papers 444, Bank for International Settlements.
  4. Marcos dal Bianco & Maximo Camacho & Gabriel Perez-Quiros, 2012. "Short-run forecasting of the euro-dollar exchange rate with economic fundamentals," Banco de Espa�a Working Papers 1203, Banco de Espa�a.
  5. John Ryan, 2009. "China and the Global Roles of Currencies," Working Papers 2009.8, International Network for Economic Research - INFER.
  6. Huang, Yiping & Wang, Daili & Fan, Gang, 2014. "Paths to a Reserve Currency: Internationalization of the Renminbi and Its Implications," ADBI Working Papers 482, Asian Development Bank Institute.
  7. Ryan, John, 2009. "China and the Reserve Currency Question," MPRA Paper 18218, University Library of Munich, Germany.
  8. Agnès Bénassy-Quéré & Jean Pisani-Ferry, 2011. "What international monetary system for a fast-changing world economy," Working Papers 518, Bruegel.
  9. Benjamin Cohen, 2012. "The Benefits and Costs of an International Currency: Getting the Calculus Right," Open Economies Review, Springer, vol. 23(1), pages 13-31, February.
  10. Fischer, Christoph, 2011. "Currency blocs in the 21st century," Discussion Paper Series 1: Economic Studies 2011,12, Deutsche Bundesbank, Research Centre.
  11. Jean Pisani-Ferry & J�r�mie Cohen-Setton, 2008. "Asia-Europe: the third link," European Economy - Economic Papers 352, Directorate General Economic and Monetary Affairs (DG ECFIN), European Commission.
  12. Stiglitz Joseph E & Greenwald Bruce, 2010. "Towards A New Global Reserve System," Journal of Globalization and Development, De Gruyter, vol. 1(2), pages 1-26, December.
  13. Christian Thimann, 2008. "Global Roles of Currencies," International Finance, Wiley Blackwell, vol. 11(3), pages 211-245, December.
  14. Satyendra Kumar Gupta & Ashima Goyal, 2014. "Reserve currencies: Can multiplicity work?," Indira Gandhi Institute of Development Research, Mumbai Working Papers 2014-010, Indira Gandhi Institute of Development Research, Mumbai, India.
  15. André Cartapanis, 2009. "Le dollar incontesté ? Économie politique d’une monnaie internationale," Revue d'Économie Financière, Programme National Persée, vol. 94(1), pages 135-150.

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