The explosion of debate on the demise of the dollar has been instructive, though vastly premature. What is striking, however, is the absence of the euro from talk of alternatives as the global currency. Currency baskets, SDRs, even internationalisation of the renminbi, have been mooted, but not the obvious alternative.
This should have been the euro’s moment. It is already the second global currency. The gap between the overwhelming role of the dollar and the size of the US economy has long been recognised. The crisis is accelerating the fall of the US share of global gross domestic product and the apparent neglect of fiscal sustainability is eroding the dollar’s relative attractiveness for the longer term.
Over its 10 years, the euro has been a huge success for its member states. Its attractiveness in the economic storm has never been higher to European Union members and neighbouring economies. Momentary currency appreciation aside, however, there is no sign of a move to the euro as a global currency. The share of dollars in global reserves remains almost three times that of euros. During the worst of the crisis, dollars were demanded by institutions in trouble and it was the US Fed that provided up to $600bn in liquidity to non-US residents through swap lines. Nothing of this sort happened with the euro. It is a huge success in Europe, but it remains a regional currency.
There is speculation about pricing oil in something other than dollars, but no evidence of that across the range of traded goods invoiced in dollars – and certainly no switch into the euro. Companies trading goods outside the immediate euro region rely on dollars as the invoicing and settlement currency, reflecting inertia, but also liquidity, availability and legal clarity. No economies seem to be leaving dollar pegs for the euro.
One reason for this is that the euro has not overcome its own self-imposed limits on usage and adoption abroad. By strictly maintaining the ERM-II exchange rate stability requirements and the Maastricht deficit, inflation and interest rate criteria for euro area entry, it has kept new applicants at a distance. By discouraging euroisation and unilateral pegging to the euro – even in its neighbourhood – it has widened the gap. By channelling the response to the crisis in eastern Europe through the International Monetary Fund it has reinforced the defensive view that stability for the euro area is fragile if extended.
This lack of leadership is a shame because the alternatives when the dollar’s role recedes are worse. Baskets are notoriously hard to make work, especially if they include an inconvertible currency. Their stability is also in doubt as they rely on uncertain political agreements. As to the SDR, it is not a real currency either.
It would be better to have a period of co-dominance between currencies, allowing for a smooth transition to a multi-currency regime. This happened between sterling and the dollar, although the unwillingness of the US government to ease this process in the 1920s and 1930s led to a leadership vacuum and financial instability. We fear the euro area’s reticence to take on a global currency role could lead to similar instability in the future.
In fact, the measures needed to secure the euro’s wider role are in the area’s own economic and political interest. Financial integration should be completed and underpinned by solid European supervision; second, the economic governance of the EMU should be strengthened, especially as regards crisis management; third, the euro area should adopt a more proactive strategy to enlargement and stand ready to provide liquidity support to partner countries where its currency is used; fourth, it should strengthen its economic base by raising the rate of sustainable growth.
Does this sound familiar? It is no accident: limitations on the euro area’s productivity, openness and governance are also the factors that limit the euro’s global role. By dodging some of its duties as a regional currency, the euro area constrains the euro’s wider adoption globally. The absence of the euro from talk of dollar alternatives shows that these internal failures also put at risk future monetary stability for the broader world.
Jean Pisani-Ferry is director of Bruegel, the Brussels think-tank. Adam Posen is senior fellow at the Peterson Institute for International Economics. They are editors of The Euro at 10: The Next Global Currency? The Financial Times.