That’s the title of a conference (June 16-17) I had the pleasure of participating in. The agenda is shown below (I have included links to the papers where publicly available, but they might not be to the most recent version; Online agenda). This conference went well beyond recounting the main features associated with the dollar’s role, presenting both new empirical work (some based on micro data) and new theoretical work — ranging from the dominant currency pricing in a New Keynesian model to an explanation for staged capital account liberalization for the Chinese bond market, against a backdrop of rapid developments in digital currencies/assets and financial sanctions.
Welcome remarks by Ricardo Correa (Federal Reserve Board)
Session 1 (Chair: Bo Sun – Federal Reserve Board):
Granular Investors and International Bond Prices: Scarcity-induced safety [pdf]
Authors: Ester Faia (Goethe University Frankfurt), Juliana Salomao
(University of Minnesota), Alexia Ventula Veghazy (European Central Bank)
Discussant: Wenxin Du (Federal Reserve Bank of New York)
Discussant: Jesse Schreger (Columbia Business School)
Session 2 (Chair: Frank Warnock – University of Virginia):
The Costs of Exorbitant Privilege: Foreign Reserve Management and Domestic Liquidity.
Authors: Ron Alquist (Financial Stability Oversight Council), R. Jay Kahn (Office of Financial Research), Karlye Dilts Stedman (Federal Reserve Bank of Kansas City)
Discussant: Stephanie Curcuru (Federal Reserve Board)
Central Bank Swap Lines: Micro-Level Evidence [pdf]
Authors: Gerardo Ferrara (Bank of England), Philippe Mueller (Warwick Business School), Ganesh Viswanath-Natraj (Warwick Business School), Junxuan Wang (Warwick Business School)
Discussant: Steven Kamin (American Enterprise Institute)
Friday, June 17 2022
Remarks by Chair Jerome Powell (Federal Reserve Board) [Video]
Session 3 (Chair: Ricardo Correa – Federal Reserve Board):
Global Inflation and Exchange Rate Stabilization under a Dominant Currency
Authors: Giancarlo Corsetti (Cambridge University), Luca Dedola
(European Central Bank), Sylvain Leduc (Federal Reserve Bank of San Francisco)
Discussant: Cristina Arellano (Federal Reserve Bank of Minneapolis)
Panel 1: Drivers and Implications of the Dollar Roles
Moderator: Linda Goldberg (Federal Reserve Bank of New York)
Helene Rey (London Business School)
Menzie Chinn (University of Wisconsin) [slides]
Jeffry Frieden (Harvard University)
Arvind Krishnamurthy (Stanford Graduate School of Business)
Session 4 (Chair: Robert Lerman – Federal Reserve Bank of New York):
Internationalizing like China [pdf]
Authors: Christopher Clayton (Yale School of Management) Amanda Dos
Santos (Columbia Business School), Matteo Maggiori (Stanford University
Graduate School of Business), Jesse Schreger (Columbia Business School)
Discussant: Eswar Prasad (Cornell University)
Slowed-Down Capital: Using Bitcoin to Avoid Capital Controls
Authors: Jiakai Chen (University of Hawaii) and Asani Sarkar (Federal Reserve Bank of New York)
Discussant: Eugenio Cerutti (International Monetary Fund)
Panel 2: Digital assets and the U.S. dollar
Closing remarks by Beth Anne Wilson (Federal Reserve Board)
• Ricardo Correa, Federal Reserve Board
• Linda Goldberg, Federal Reserve Bank of New York
• Robert Lerman, Federal Reserve Bank of New York
• Bo Sun, Federal Reserve Board
• Gianluca Benigno, Federal Reserve Bank of New York
• Alain Chaboud, Federal Reserve Board
• Stephanie Curcuru, Federal Reserve Board
• Wenxin Du, Federal Reserve Bank of New York
• Antoine Martin, Federal Reserve Bank of New York
• Friederike Niepmann, Federal Reserve Board
• Fabiola Ravazzolo, Federal Reserve Bank of New York
• Frank Warnock, University of Virginia
• Tony Zhang, Federal Reserve Board
Here’s my rough-and-ready commentary on what were to me notable aspects of the two days.
The keynote talk by Barry Eichengreen was, as always, incredibly insightful and careful. He summarized the results of his recent paper, The Stealth Erosion of Dollar Dominance: Active Diversifiers and the Rise of Nontraditional Reserve Currencies (with Serkan Arslanap and Chima Simpson-Bell). Anybody who wants to know the analysis using the most up-to-date and detailed data on reserve holdings should read this paper. Among other things, it uses a Chinn-Frankel (2007) type logistics transformed share variable to estimate the determinants of aggregate reserve holdings; it also uses the data used in Chinn-Ito-McCauley (2022) to estimate the individual central bank determinants of reserve holding composition. The paper stresses the rise of non-traditional reserve currencies as the dollar’s share is eroded: Australian dollar, Canadian dollar, Korean won. Contrary to what might be expected (and certainly anticipated a few years back), the Chinese renminbi’s share accounts for only about a quarter of the dollar’s decline.
After an extensive Q&A of Eichengreen’s paper, a lively exchange ensued in the following panel, focusing on drivers and implications of the US dollar’s role in the international monetary system (in 10 minutes comments, moderated by Linda Goldberg). Helene Rey clearly and succinctly summarized in a couple figures the contrast between the centrality of the US in the global financial network vs. the multi-pole aspect of the trade network. Then, highlighting the deep liquid markets and lender of last resort aspect of US assets, explained why the euro did not come close to overtaking the dollar (in the past). My presentation is here, while Jeffry Frieden observed the mutually reinforcing aspects of US geopolitical power and will to engage internationally, and the dollar’s role as an economic force; take away that willingness to engage internationally and dollar centrality is no longer guaranteed in the longer term. Arvind Krishnamurty laid out what makes a “safe asset”, and why safe assets are key to liquidity. In his theoretical framework, disengaging payments systems from assets could have drastically different effects in emerging markets vs. advanced economies. He also noted that US Treasurys as safe assets is not a given – too much debt will compromise will compromise that role.
All the presentations (papers and comments) were interesting, and as somebody not in the center of these debates over the past two years, extremely informative. As always, a conference is a learning experience, but more so in this case for me. A few findings that I considered surprising in the papers.
Tabova and Warnock (Foreign investors and US Treasuries), the authors find that foreign investors are not necessarily that much worse than domestic investors in terms of their returns on US Treasuries. The commonplace thought that they are is an artefact of the attributes of the data used in previous analyses. (Still, there is a differential, even if it is not statistically significant).
In Alquist, Kahn and Stedman (The costs of exorbitant privilege), the authors documented how the behavior of holders of large amounts of reserves (oil exporters) managed their reserves in a way (sales) that affected the repo market in March 2020. This is a manifestation of the fact that if you have a truly internationalized currency, to some extent the fate of your financial markets is tied up with how foreign economies react to shocks.
Corsetti, Dedola and Leduc’s presentation of Global Inflation and Exchange Rate Stabilization under a Dominant Currency explained how under dominant currency pricing (effectively, traded goods are priced in dollars, and their prices are sticky), an optimal policy is one where the dominant currency country internalizes the impact of dollar price stickiness on foreign country prices and output. Of course, central bank mandates do not typically require taking into account such factors — so policy will be suboptimal if they are couched solely in terms of output and inflation gaps.
The primarily theoretical paper by Clayton, Dos Santos, and Maggiori (Internationalizing like China) provides an explanation for why China’s policymakers engaged in a staged opening up of their bond market. Essentially, it’s a way to build up credibility in such a way as to encourage “fickle” capital inflows (fickle being private investors, as opposed to official investors like central banks and sovereign wealth funds). Eswar Prasad, the discussant, noted that the assumption that the government seeks to maximize it’s monopoly power to extract the lowest interest rate might not be a good one.
Chen and Sarkar (Slowed down capital: Using bitcoin to avoid capital controls) show how the spread between bitcoin in China and Bitcoin elsewhere widened when capital surged out of China. For those who think the primary usefulness of cybercurrencies is circumventing capital controls or otherwise avoiding regulation and taxes, these results were affirming.