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Payments-Related Intraday Credit Differentials and the Emergence of a Vehicle Currency

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  • Sujit Chakravorti

    (Federal Reserve Bank of Chicago)

Abstract

The hypothesis put forth is that the U.S. dollar's role as a vehicle currency in global foreign exchange markets is linked to the low cost of payments-related intraday credit. After reviewing the types of intraday credit facilities extended to participants on payment systems settling the major currencies, a foreign exchange market is simulated. Results indicate that if there are sufficient differences in the availability of intraday credit between one settlement system and the others, the currency cleared and settled by the payment system extending the greatest intraday credit will have narrower bid-ask spreads. Vehicle currencies are associated with narrower spreads. The hypothesis put forth is that the U.S. dollar's role as a vehicle currency in global foreign exchange markets is linked to the low cost of payments-related intraday credit. After reviewing the types of intraday credit facilities extended to participants on payment systems settling the major currencies, a foreign exchange market is simulated. Results indicate that if there are sufficient differences in the availability of intraday credit between one settlement system and the others, the currency cleared and settled by the payment system extending the greatest intraday credit will have narrower bid-ask spreads. Vehicle currencies are associated with narrower spreads. U.S. dollar's role as a vehicle currency in global foreign exchange markets is linked to the low cost of payments-related intraday credit. After reviewing the types of intraday credit facilities extended to participants on payment systems settling the major currencies, a foreign exchange market is simulated. Results indicate that if there are sufficient differences in the availability of intraday credit between one settlement system and the others, the currency cleared and settled by the payment system extending the greatest intraday credit will have narrower bid-ask spreads. Vehicle currencies are associated with narrower spreads.

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Bibliographic Info

Paper provided by EconWPA in its series International Finance with number 0111001.

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Length: 345 pages
Date of creation: 05 Nov 2001
Date of revision:
Handle: RePEc:wpa:wuwpif:0111001

Note: Type of Document - Latex/pdf; prepared on IBM PC ; to print on HP/PostScript/Franciscan monk; pages: 345,395,4323247 ; figures: included/. This is located on the web at:
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Keywords: payment systems; foreign exchange; liquidity;

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References

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  1. George R. Juncker & Bruce J. Summers & Florence M. Young, 1991. "A primer on the settlement of payments in the United States," Federal Reserve Bulletin, Board of Governors of the Federal Reserve System (U.S.), issue Nov, pages 847-858.
  2. Krugman, Paul, 1980. "Vehicle Currencies and the Structure of International Exchange," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 12(3), pages 513-26, August.
  3. Oh, Seonghwan, 1989. "A theory of a generally acceptable medium of exchange and barter," Journal of Monetary Economics, Elsevier, vol. 23(1), pages 101-119, January.
  4. Tavlas, G.S., 1991. "On the International Use of Currencies: the Case of the Deutsche Mark," Princeton Studies in International Economics 181, International Economics Section, Departement of Economics Princeton University,.
  5. Giancarlo Corsetti & Vittorio Grilli & Nouriel Roubini, 1990. "Exchange Rate Volatility in Integrating Capital Markets," NBER Working Papers 3570, National Bureau of Economic Research, Inc.
  6. Brunner, Karl & Meltzer, Allan H, 1971. "The Uses of Money: Money in the Theory of an Exchange Economy," American Economic Review, American Economic Association, vol. 61(5), pages 784-805, December.
  7. Kiyotaki, Nobuhiro & Wright, Randall, 1989. "On Money as a Medium of Exchange," Journal of Political Economy, University of Chicago Press, vol. 97(4), pages 927-54, August.
  8. Dirk Schoenmaker & Peter M. Garber & D. F. I. Folkerts-Landau, 1996. "The Reform of Wholesale Payment Systems and its Impacton Financial Markets," IMF Working Papers 96/37, International Monetary Fund.
  9. Jones, Robert A, 1976. "The Origin and Development of Media of Exchange," Journal of Political Economy, University of Chicago Press, vol. 84(4), pages 757-75, August.
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Cited by:
  1. Chakravorti, Sujit, 2000. "Analysis of systemic risk in multilateral net settlement systems," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 10(1), pages 9-30, January.

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