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International Medium of Exchange: Privilege and Duty

Author

Listed:
  • Ryan Chahrour

    (Boston College)

  • Rosen Valchev

    (Boston College)

Abstract

The United States enjoys an “exorbitant privilege” that allows it to borrow at especially low interest rates. Meanwhile, the dollarization of world trade appears to shield the U.S. from international disturbances. We provide a new theory that links dollarization and exorbitant privilege through the need for an international medium of exchange. We consider a two-country world where international trade happens in decentralized matching markets, and must be collateralized by safe assets — a.k.a. currencies — issued by one of the two countries. Traders have an incentive to coordinate their currency choices and a single dominant currency arises in equilibrium. With small heterogeneity in traders’ information, the model delivers a unique mapping from economic conditions to the dominant currency. Nevertheless, the model delivers a dynamic multiplicity: in steady-state either currency can serve as the international medium of exchange. The economy with the dominant currency enjoys lower interest rates and the ability to run current account deficits indefinitely. Currency regimes are stable, but sufficiently large shocks or policy changes can lead to transitions, with large welfare implications.

Suggested Citation

  • Ryan Chahrour & Rosen Valchev, 2018. "International Medium of Exchange: Privilege and Duty," 2018 Meeting Papers 317, Society for Economic Dynamics.
  • Handle: RePEc:red:sed018:317
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    References listed on IDEAS

    as
    1. James Tybout & David Jinkins & Daniel Yi Xu & Jonathan Eaton, 2016. "Two-sided Search in International Markets," 2016 Meeting Papers 973, Society for Economic Dynamics.
    2. Gita Gopinath & Emine Boz & Camila Casas & Federico J. Díez & Pierre-Olivier Gourinchas & Mikkel Plagborg-Møller, 2020. "Dominant Currency Paradigm," American Economic Review, American Economic Association, vol. 110(3), pages 677-719, March.
    3. Mathieu Taschereau-Dumouchel & Edouard Schaal, 2015. "Coordinating Business Cycles," 2015 Meeting Papers 178, Society for Economic Dynamics.
    4. Niepmann, Friederike & Schmidt-Eisenlohr, Tim, 2017. "International trade, risk and the role of banks," Journal of International Economics, Elsevier, vol. 107(C), pages 111-126.
    5. Linda S. Goldberg, 2011. "The international role of the dollar: Does it matter if this changes?," Staff Reports 522, Federal Reserve Bank of New York.
    6. Marcela Eslava & James Tybout & David Jinkins & C. Krizan & Jonathan Eaton, 2015. "A Search and Learning Model of Export Dynamics," 2015 Meeting Papers 1535, Society for Economic Dynamics.
    Full references (including those not matched with items on IDEAS)

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    Blog mentions

    As found by EconAcademics.org, the blog aggregator for Economics research:
    1. International Medium of Exchange: Privilege and Duty
      by Christian Zimmermann in NEP-DGE blog on 2018-10-10 14:52:26

    Citations

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    Cited by:

    1. Matteo Maggiori & Brent Neiman & Jesse Schreger, 2020. "International Currencies and Capital Allocation," Journal of Political Economy, University of Chicago Press, vol. 128(6), pages 2019-2066.
    2. Rosen Valchev, 2020. "Bond Convenience Yields and Exchange Rate Dynamics," American Economic Journal: Macroeconomics, American Economic Association, vol. 12(2), pages 124-166, April.
    3. Matteo Maggiori & Brent Neiman & Jesse Schreger, 2019. "The Rise of the Dollar and Fall of the Euro as International Currencies," AEA Papers and Proceedings, American Economic Association, vol. 109, pages 521-526, May.
    4. Maggiori, Matteo, 2021. "International Macroeconomics With Imperfect Financial Markets," SocArXiv z8g6r, Center for Open Science.
    5. Zhengyang Jiang & Arvind Krishnamurthy & Hanno Lustig, 2020. "Dollar Safety and the Global Financial Cycle," NBER Working Papers 27682, National Bureau of Economic Research, Inc.
    6. Emmanuel Farhi & Matteo Maggiori, 2019. "China vs. U.S.: IMS Meets IPS," NBER Working Papers 25469, National Bureau of Economic Research, Inc.
    7. Gita Gopinath & Jeremy C. Stein, 2018. "Banking, Trade, and the making of a Dominant Currency," NBER Working Papers 24485, National Bureau of Economic Research, Inc.
    8. Eren, Egemen & Malamud, Semyon, 2018. "Dominant Currency Debt," CEPR Discussion Papers 13391, C.E.P.R. Discussion Papers.
    9. Liu, Tao & Lu, Dong & Woo, Wing Thye, 2019. "Trade, finance and international currency," Journal of Economic Behavior & Organization, Elsevier, vol. 164(C), pages 374-413.
    10. Pierre-Olivier Gourinchas & Hélène Rey & Maxime Sauzet, 2019. "The International Monetary and Financial System," Annual Review of Economics, Annual Reviews, vol. 11(1), pages 859-893, August.
    11. Egemen Eren & Semyon Malamud, 2019. "Dominant currency debt," BIS Working Papers 783, Bank for International Settlements.
    12. Gourinchas, PO & Rey, H & Sauzet, M, 2019. "The International Monetary and Financial System," Department of Economics, Working Paper Series qt19n967tz, Department of Economics, Institute for Business and Economic Research, UC Berkeley.
    13. Konstantin Egorov & Dmitry Mukhin, 2019. "Optimal Monetary Policy under Dollar Pricing," 2019 Meeting Papers 1510, Society for Economic Dynamics.
    14. Vania Stavrakeva & Jenny Tang, 2018. "The dollar during the global recession: US monetary policy and the exorbitant duty," Working Papers 18-10, Federal Reserve Bank of Boston.

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    More about this item

    JEL classification:

    • F3 - International Economics - - International Finance
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
    • D8 - Microeconomics - - Information, Knowledge, and Uncertainty
    • D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search; Learning; Information and Knowledge; Communication; Belief; Unawareness

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