Currency-Revaluation – Inevitable?
Global currency revaluation is a divisive topic. For every expert predicting its inevitability, two more condemn it as impossible. All nations agreeing to adopt a new currency standard, or returning to the gold standard, seems unlikely. Logically, it would take a global catastrophe to give multiple governments the motivation to seriously consider currency evaluation, writes FXTM’s Communications Manager, Emma Davidson.
It took two World Wars and the threat of a second Great Depression to encourage the Allied Nations to standardise currency in the 1940s. The Bretton Woods agreement fixed the international gold standard to the U.S. Dollar, essentially creating a ‘pegged rate’ currency regime. Members agreed to maintain exchange rates, relying on money supply measures and currency trading to ensure their currencies remained within a 1% band of parity with the USD.
This meant that, as the principal reserve currency, the greenback took on the role previously held by gold in the international financial system. Bretton Woods was, essentially, an experiment on a global scale – and it failed, as many predicted it would. By terminating the convertibility of USD to gold in 1971, the Nixon Administration effectively signed its death warrant. A number of currencies began floating freely, determined by market forces, and, by 1973, Bretton Woods gave way to the floating exchange rates that currently govern forex trading.
The value of fixed vs. floating exchange rates is a common theme in currency revaluation. The 2008 economic crisis was the closest we came to a major global event with the power to motivate a change in international monetary policy. However, in order to implement revaluation, central banks would need to accept limitations on their ability to execute money supply measures. Even at the height of the crisis, no one was quite desperate enough to surrender control of national fiscal policy. Yet, if the crisis taught us anything, it’s that we still need to rethink how we manage currency volatility.
Enter Special Drawing Rights (SDRs). Created in the late 60s as a response to the USD crisis, the value of the SDR was initially defined as equivalent to 0.888671 grams of fine gold—which, at the time, was also equivalent to one US dollar. After the collapse of the Bretton Woods system in 1973, the SDR was redefined as a basket of currencies. SDR units are made up of a weighted ‘basket’ of currencies – the USD, EUR, GBP, JPY and (more recently) RMB. China has shown notable interest in the mechanism, which is hardly surprising. The country is becoming increasing vocal on issues of global finance, and pegging international currencies to SDR would give it even more clout on the world stage.
That said, the SDR suffers from a fundamental lack of liquidity. For the moment, at least, there are insufficient numbers of the ‘baskets’ in circulation to support international fiscal policy. Whether this is good news for China or not remains to be seen. Some economists are championing the RMB as the next reserve currency, despite current limitations in its tradability. The question of the legitimacy of Chinese growth statistics is one that needs to be addressed with some urgency, but the fact remains that China’s economy is set to outstrip that of developed Western nations over the next two decades; we will likely be transacting more in RMB in the future. The majority of economists are already predicting that China will ultimately take the number one spot in terms of GDP.
Global currency re-evaluation remains a contentious topic, not least of all because our current regime of freely floating fiat currencies is volatile. It is easily influenced by external variables such as politics, conflict and commodity prices – something anyone with any interest in forex trading will have noticed throughout 2017. Tumultuous years like this one could play into the hands of revaluation proponents, but the monumental effort it will require to implement is a massive hurdle to overcome. Is a global currency reset inevitable? Probably not, but if you look at recent events such as the Trump election, Brexit and the Theresa May election gaffe, anything is possible.
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