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Analysis
Australia, Canada dollars classified as reserve currencies

Australia, Canada dollars classified as reserve currencies

Onset of multi-currency reserve system
Renminbi, other non-yen Asian currencies not on IMF list

by David Marsh

Mon 19 Nov 2012

The Australian and Canadian dollars, the world’s leading commodity-rich currencies, are being classified as official reserve assets by the International Monetary Fund, marking the onset of a multi-currency reserve system and a new era in world money.

In a seemingly innocuous yet highly portentous move, the IMF from next year will include the Australian and Canadian dollars in statistics supplied by reserve-holding nations on the make-up of their central banks’ foreign exchange reserves. The technical-sounding measure, reflecting growing diversification of the world’s $10.5tn of reserves, is likely over time to exert wide-ranging impact on world bond and equity markets.

Expanding by two the list of officially-recognised reserve assets from the present five – the dollar, euro, sterling, yen and Swiss franc – signals a new phase in the development of reserve money. For most of the past 150 years, the world has had just two reserve currencies, with sterling in the lead until the First World War, and the dollar taking over as the prime asset during the past 100 years.

Sterling – although still the world’s third reserve currency just ahead of the yen, according to IMF figures – has been in relative decline since the Second World War. The birth of the euro in 1999 has turned the European single currency into the world’s No. 2 reserve unit, but it is now officially accepted that the dollar and the euro share their role with smaller currencies.

Enshrining in official thinking a development already evident among reserve managers and on private markets in a sense does no more than catch up with reality. However, the IMF step has both practical and symbolic importance and will almost certainly promote further asset diversification among official and private asset managers.

The popularity among central banks of the Australian and Canadian dollars, which have been relatively strong even against a firmer US dollar during the past few years, reflect their stable economic growth and intact banking systems since the financial crisis, as well as the influence of Australian and Canadian commodity resources. On informal estimates, world-wide official foreign exchange holdings in each of the two currencies are probably around $60bn.

The Chinese renminbi, the Korean won and the Singapore dollar are being held by a relatively small number of central banks. There are no Asian currencies (apart from the yen) on the new IMF list, reflecting their still very low use as official assets.

The renminbi has attracted widespread attention as a possible future reverse currency. But it’s still some years away from attaining that status, primarily because it is not fully convertible. Although held in appreciable quantities by 10-15 central banks around the world, the Chinese money lags as a reserve currency behind not just the Australian and Canadian units, but also some Scandinavian currencies.

People's Bank of China governor Zhou Xiaochuan said at the weekend: ‘For the central bank, the next movement related to the yuan [renminbi] is going to be reform of convertibility … We are going to realise it, we are moving in this direction, we need to go further, we will have some deregulation.’ Zhou, who will have completed 10 years at the central bank next month, is widely expected to retire shortly. The focus will be on how much scope the Chinese Communist leadership gives his successor to pursue further financial liberalisation.

The reserve data revamp forms part of a wide-ranging effort by the IMF, working closely with the Group of 20 leading economies and the Basel-based Financial Stability Board, to expand and deepen its overall statistical coverage of the world economy.

Recognising that insufficient warning was given of the 2007-08 financial eruption, the IMF and its members say that statistics on different components of countries’ asset and liabilities and general cross-border financial linkages can provide valuable early indications of economic perturbation.

Extending the scope of the IMF’s so-called COFER data base – standing for ‘Composition of foreign exchange reserves’ – marks the culmination of 18 months of highly sensitive preparations, reflecting the secrecy with which some leading countries habitually cloak their foreign exchange holdings. The IMF has pledged to continue to maintain total confidentiality on the composition of individual countries’ reserves, even though many previously publicity-shy countries including Switzerland, the UK and Russia are now giving details.

Since COFER was started in 1995, world foreign exchange reserves have risen more than sevenfold, from $1.4tn to $10.5tn by the second quarter of 2012, mainly reflecting increased holdings by emerging market and other economies in Asia. The importance of the dollar has diminished, from a peak of 71.5% of declared reserves in 2001 to just under 62% by 2012. Outside the five standard reserve currencies, the importance of ‘other’ currencies has risen, from a low of 1.3% in 2001 to 5.3% by end-June 2012, amounting to $310bn.

Acknowledging that the COFER data base only inadequately captures currency diversification, the IMF contacted a total of 191 countries over the past year to try to refashion its statistical coverage, including important reserve-holders led by China which do not report their currency breakdowns to the IMF. Of this total, 63 took part in a subsequent survey. Along with the five main reserve currencies, the survey revealed the identities of 10 ‘other currencies’ among reserve holdings, of which the Australian and Canadian units are by far the most important.

The IMF’s attempts to persuade a significant number of COFER non-reporters such as China to open up on their currency composition have failed for the time being. So-called unallocated reserves held by more than 40 countries, where holders do not provide individual currency composition, amounted to $4.7tn, 44.5% of the total, as of June 2012. At present, the IMF does not reveal the names of countries which report under COFER, but this may change in future.

China believes that giving data to COFER would breach secrecy over the composition of its foreign exchange holdings and, crucially, how its preferences change over time. However, partly lifting the veil over Chinese holdings (which now total $3tn), the China Securities Journal, an official publication, reported in 2010 that 65% of China’s reserves were in dollars, 26% in euro, 5% in sterling and 3% in yen. Since then, observers have expected the Chinese may go further in increasing transparency – although this has not yet happened.

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