Meet The New Reserve Currencies

The IMF announced plans to add the Canadian and Australian dollars to the list of its reserve currencies.

Meet The New Reserve Currencies

C urrently the IMF reports FX reserve allocations for only five currencies: the U.S. dollar, euro, Japanese yen, British pound and Swiss franc. All remaining FX holdings are lumped together as “other currencies”. Historically, holdings of “other currencies” were fairly insignificant and did not warrant a detailed breakdown.

However, since the global financial crisis and the ongoing sovereign debt problems in the euro zone, reserve managers have been looking for alternatives to the major currencies. From about 2% of total reserves in 2009, the allocation to “other currencies” has risen to over 5%. The Canadian and Australian dollars probably account for the vast majority of this increase.

To be sure, the IMF’s announcement is only a recognition of what central banks have been doing. It does not make the Canadian and Australian dollars any more attractive. Nevertheless, the shift into alternative currencies is a trend that is likely to persist. Global FX reserves total over $11 trillion, so a 1% change in currency allocation during the span of a year amounts to more than $100 billion.

A large sum for relatively small economies like Canada and Australia to absorb.

Bottom Line: Zero bound short term interest rates, ballooning central bank balance sheets, large fiscal deficits and worrisome government debt levels are forcing investors, in both the public and private sectors, to seek out relatively sound alternatives to the major currencies.

CAD, AUD, NZD, NOK and SEK are the main beneficiaries of this trend.

How To Resolve The Greek Question, And When

Greece will only become solvent when another quarter of its sovereign debt is written off.

 How To Resolve The Greek Question, And When

A ssume optimistically that Greece’s nominal GDP can grow at a 3% rate over the next 5-10 years. Also assume annual primary surpluses average 1.5% of GDP, a little better than before Greece’s boom and bust. This means that to achieve long-term solvency, Greece’s debt servicing burden must decline to 4.5%, from today’s level of 6% of GDP.

In other words, Greece needs to write off another quarter of its debt. But in the case of the ECB, it is illegal to write down sovereign debt as this amounts to monetization of government financing. And in the case of the EU/IMF, a haircut effectively imposes losses on taxpayers including some from outside the euro area. Hence, the first port of call for sacrifices will once again be the private sector which still holds about 40% of Greek government bonds.

The main mechanism for the write-down would be the ESM lending funds to the Greek government to buy back its own debt at current distressed market values subjecting many private bond holders to capital losses.

When must policymakers answer the Greek question?

As bonds mature and are refinanced through official loans, the ownership of Greek debt is slowly but surely shifting out of the private sector and into the official sector. Hence, there will come a point when large official sector losses are unavoidable to make Greece credibly solvent.

Policymakers are surely aware of this and as we have previously covered in our research, the Troika is inching toward an answer to the Greek question.

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