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in this part we will talk about 3 things that had the potential of unseating USD as the dominant currency
- 1. Elimination of exchange rate risk and transaction costs: Most of the multinational companies are established in developed countries such as the US.
- 2. Promotion of market efficiency: If world currency is introduced, the exchange rate difference of the same goods in different countries will be eliminated. Theoretically this promotes law of one price, thus promotes market efficiency
- 3. Stable foundation of development for developing countries whose currencies have low credibility: Zimbabwe has suffered one of the worst hyperinflation, which is devastating to the countries’ economies. A world currency will be significant stabilizer for the economy. Subsequently, foreign investors will be more willing to invest in the country.
Although a world currency benefits both developed and developing countries, we do not think that the rise of a world currency is a probable scenario in the foreseeable future because of three reasons:
- 1. Countries will not give up the freedom to decide monetary policies that suits the need of their countries.
- 2. Lack of an entity with enough political power to establish such currency, and if an entity has that ability, it will certainly choose its own currency to benefit itself
- 3. Difficult to balance the interest of all countries. It is difficult to determine the conversion rate of different countries’ currencies against the world currency.
Next ill talk about rmb.
- There are several new developments that will push Renminbi internationalization,
- the first development is Establishment of the Asian Infrastructure Investment Bank
- AIIB is an organization where different countries commit a certain amount of fund for loan to build infrastructure in developing regions.
- China has taken 30% stake in AIIB.
- Most of the major economies, as in blue on the mpa, have already agreed to join AIIB, with the exception of the US, Japan and Canada.
- With majority voting right, China can raise Renminbi debt in large scale to increase demand for Renminbi.
One Belt One Road
- One Belt One Road (OBOR) is a conceptual framework which plans to build infrastructure along the historical Silk Belt to facilitate trade between China and the regoins as circled in the map.
- AIIB will support part of the fund used to build the infrastructure.
- We can imagine that this will further increase the demand of Renminbi used in trade and investment.
the last development is inclusion of RMB into the SDR basket
- Renminbi fulfils the two requirements for inclusion.
- Firstly, Renminbi must be one of the largest exporter.
- Secondly, Renminbi must be freely usable.
- Although SDR is only used as reserve and the inclusion of Renminbi into the basket will not bring a practical impact, it signifies recognize the status of Renminbi as an international currency.