ECON: Understanding Reserve Currency (A Must Read!)

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posted on May, 22 2009 @ 04:05 PM
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Reserve currency, the words are everywhere these days when reading up on the Economic Collapse of the World. Most people do not understand its implications and effects on the economy. I am going to try and explain it the best I can for everyone who reads this thread.

First of all I would like to point out that even though I do use Wikipedia, I wish I didnt have too. Wikipedia just has the most information in one place that I could find. I will also site other places and even a High School text book I happen to have.

What is Reserve Currency?

Reserve Currency

A foreign currency held by central banks and other major financial institutions as a means to pay off international debt obligations, or to influence their domestic exchange rate.

Investopedia Commentary

Currently, the U.S. dollar is the primary reserve currency used by other countries. A very large percentage of commodities such as gold and oil are usually priced in U.S dollars, causing other countries to hold this currency to pay for these goods. A large debate still continues about whether or not the U.S. dollar will stay the main reserve currency or if it will shift over to the euro.
Dictionary.com
Or

A reserve currency (or anchor currency) is a currency which is held in significant quantities by many governments and institutions as part of their foreign exchange reserves. It also tends to be the international pricing currency for products traded on a global market, such as oil, gold, etc.

This permits the issuing country to purchase the commodities at a marginally cheaper rate than other nations, which must exchange their currency with each purchase and pay a transaction cost. (For major currencies, this transaction cost is negligible with respect to the price of the commodity.) It also permits the government issuing the currency to borrow money at a better rate, as there will always be a larger market for that currency than others.
Wikipedia.com
Basically, It is the currency that countries use to pay debts with each other. With a marginal impact on allowing the country holding the reserve to get cheaper products from around the globe.

Why is it a bad thing if the USD is no longer the Reserve Currency?

The United States dollar is the most widely-held reserve currency in the world today. Throughout the last decade, an average of two thirds of the total allocated foreign exchange reserves of countries have been in U.S. dollars. For this reason, the U.S. dollar is said to have "reserve-currency status", making it somewhat easier for the United States to run higher trade deficits with greatly postponed economic impact (see currency crisis). Central bank reserves held in dollar-denominated debt, however, are small compared to private holdings of such debt. In the event that non-United States holders of dollar-denominated assets decided to shift holdings to assets denominated in other currencies, there could be serious consequences for the U.S. economy. Changes of this kind are rare, and typically change takes place gradually over time; the markets involved adjust accordingly.

Having the title of Reserve Currency allows the US to have a large part of the global stage and better relations with many foreign countries. To put it simply: When everyone wants you, everything is easier to obtain.
If this were to change the US would suddenly have a smaller role in the world, strain on trading and higher prices for its citizens.

Why is this happening?

There are two principal causes behind the most recent development. Both have to do with the fact that Europe is becoming more attractive for international investors compared to the United States. On the one hand, interest rates in Europe and the United States are moving in opposite directions. "The ECB will continue to raise its key rates next year, whereas interest rates appear to have peaked in the USA," says Joachim Scheide, an expert on the economy at the Global Economic Institute (IFW) in the northern German city of Kiel. This means that financial investments denominated in euros are yielding higher interest and are in greater demand internationally, which in turn leads to a rise in the euro.

The prospects for growth are also shifting. The US economy is cooling off. The government recently lowered its 3.3 percent growth forecast for 2007. If Americans consume less as a result of a decline in foreign capital investment, the United States could even face a prolonged period of more modest growth.
Spiegel International I highly suggest you read this entire article to gain a better understanding of today's markets. Also note that the article is from 2006, this has been a long time coming.

What do the current reserves look like?
Please see this graph on Wikipedia for better insight. Graph
Notice how the Euro has slowly been going up by a few percent each year, as the USD has gone down.

What would happen if the USD suddenly were not the Reserve Currency anymore?

Pessimists are quick to come out of the woodwork whenever a major shift in the financial markets approaches. Many economists and bank analysts, especially in the United States, believe that the correction will happen very suddenly, with the dollar depreciating by 10 to 30 percent within a short period of time.

This would inevitably cause an adjustment crisis. Growth rates would plunge worldwide and a global recession, coupled with a drastic jump in unemployment, could follow.

This doomsday scenario is by no means the majority view. Some experts, especially in Germany, are more optimistic. "The US trade deficit has grown in the course of a few years," says IFW expert Scheide. "It will also gradually decline over a period of several years."

Scheide expects the dollar to lose another 10 percent in value against the euro in the next five years, a scenario that would be much easier to handle for the German and European economies. Companies would have sufficient time to adjust to changes in exchange rates. "In that case even an exchange rate of 1.40 wouldn't be disastrous," said DIW analyst Steinherr.
Spiegel International

Can you give me some Scenarios so I have a better idea of how this effects me?

The Soft Landing: This scenario doesn't involve any dramatic drop off in the dollar; rather the dollar would slowly depreciate to a more balanced level. Imported goods (particularly from the Far East) would be more costly for us to purchase. Meanwhile our export economy would slowly revitalize since our goods will become cheaper and be more in demand with the increased wealth that the people living in developing nations are beginning to experience. Our trade balance would slowly disappear and higher tax revenues would rebalance the deficit. The threat of outsourcing would slowly turn around. The domestic stock market would appreciate as a result, in particular large multinational corporations and those within the manufacturing sector. Smaller (non-multinational) foreign stocks would also do well along with bonds denominated in foreign currency. Larger, dollar reliant multi-national foreign companies wouldn't fare as well.

The Hard Landing: This would happen when one event creates a chain of events, leading to panic and crash in the financial markets. For instance, a geopolitical event such as China invading Taiwan could trigger this. Or sudden changes in the market makes a hedge fund go under; leaving exponential obligations and a huge sell off of assets around the world to fill the gap. Commodities, long term interest rates, and inflation would take off. Ironically, the rust belt would come alive and become a boom area of the country with its cheap manufacturing capability and attractive asset prices to overseas buyers. The domestic stock market would crash along with the housing market. Seeking safety, short term debt and money market accounts would be earning close to nothing. Foreign stocks and foreign denominated bonds would do exceptionally well in light of the immediate event. Eventually, the results will be the same within the soft landing, but this scenario would be accompanied by more extreme market conditions, panic, capitulation and pain that would amplify the situation.

Worst Case: This is what Lietaur suggested. This is where the U.S. government takes action that creates artificial market conditions with regulations and reneges on its obligations to its debt holders around the world. Essentially there would be two dollar's, a foreign and a domestic dollar. It would spark a new era of global protectionalism and currency restriction. The global economy and financial markets would in a prolonged recession or depression and the U.S. would experience higher interest rates, deficits, taxes, and the real estate market would bust. Wal-Mart wouldn't have anything on their shelves because all the foreign goods would be too expensive to buy.
Maine Business
Last one there sounds familiar doesnt it?

Now because the USD is the reserve currency all the bad would happen in the US while Europe would prosper and have its hayday again.

[edit on 5/22/2009 by Tentickles]




posted on May, 22 2009 @ 04:05 PM
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Sum it up for me...
The Reserve Currency is the money most countries pay their debt in. The US being the reserve holder has a large presence on the international stage because of this. If the US were not the reserve currency, like is slowly happening now, bad things shall happen for it's citizens. Usually under the lines of inflation on nearly everything, higher unemployment, longer recession/depression and people just being plain mad.


There you have it folks. I hope this has helped you understand the world alittle better.

Feel free to comment and add any information you find relevant.



posted on May, 22 2009 @ 04:43 PM
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I would also like to add:

If the US dollar deflates anymore your bank account and pensions will start seeing the impact. Most people have already lost half of their savings due to the stock market. If the dollar becomes worth less, just take the number you have in your account now and subtract another 1/3 to 1/2 off of it.
The Dollar will be literally worth less.

[edit on 5/22/2009 by Tentickles]



posted on May, 22 2009 @ 04:51 PM
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Wait a minute.... Since its all fiat money and the only ones who make money are the FED RESERVE.....would it not be in our best interest that these private owned banks fail???


I mean really, this BS system we call money is what leads to all of the misery, poverty and most of the sickness in the world.

Why is it that we worry about the money to get 20 inch bling bling rims for our car, yet people are STARVING across the globe. Even in our own country!

I say screw em and let them fail. We need to hit the reset button anyways.



posted on May, 22 2009 @ 04:56 PM
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reply to post by bismarcksea
 


I am all for hitting the reset button but understanding our current system better can lead to changes.

Because if you really think about it, they wont allow the button to be reset.



posted on May, 22 2009 @ 06:52 PM
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I am bumping this because I believe this is an important topic which needs to be discussed and understood.

Let's get a discussion going people



posted on May, 22 2009 @ 06:58 PM
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Originally posted by Tentickles
reply to post by bismarcksea
 


I am all for hitting the reset button but understanding our current system better can lead to changes.

Because if you really think about it, they wont allow the button to be reset.



Good point. Otherwise they lose the power and control, of the masses.



posted on May, 22 2009 @ 08:53 PM
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Well having the world reserve currency is certainly an Asset to the U.S.A.....especially for it's imperialistic adventures.............

USA has biggest "Defense" spending by a Margin so wide your mouth drops when looking at the comarison.....

now granted there GDP is also extremely large but this is also thanks to having the world reserve currency.....(consumers and gov't can spend spend spend) we trade paper for other country's giving us stuff (and in exchange we give them employment demand/jobs) at least that is how the relationship worked for the last 25 or so years......u.s consumers spend foreign exporters sell .....(and they have a job's boom" and we have an ability to consume much more than we produce...

but alas.....this relationship may not make political sense should the U.S consumer not be able to Hold up to his/her end of the bargain.......banks are not lending that aggresively (heck most are insolvent and keeping a growing % of $ for loans that may go bad)......asset prices (houses /stocks are falling ) making consumers seem less wealthy...bottom line less credit available ...combined with more conservative/forced frugality = less benefit to have the world economy set up to cater to the U.S consumer

will this lead to a break in the dollar as reserve currency? who knows......politicians don't like change that much (unless they face literal pitchforks) .....so perhaps they will try and fuel another bubble.....notice each bubble has WORSE collateral damage......should the gov't ever get ahold of social security and invest some of this in stocks......and the banks start lending to consumers......we could have a couple year recovery that keeps the global order profitable........i think it would be very important to cut tax's on small business and promote private sector job growth....but i am not holding my breath for another "good" bubble

One thing to look for is various country's devaluing their currency's against something like gold.............because this would reduce the debt over-hang.....this over-hang is making it difficult to blow new bubbles......employment is declining....their is no real method to get all the "new printed money" into people's "spending" hands......thus after the investment classes are bailed out with dollars /euro/yen that still have a decent purchasing power....(the investment class) can invest these into HARD assets (that will reprice upward when any co-ordinated devaluation occurs)....i.e Gold....Oil...Fine art....antiques....(some real-estate but not all b/c unless wages reprice much higher ....high RE prices won't be sustainable).......and in this era of cheap labor and crowded job fairs....and corporations looking for big profits.....i don't think wages would go up anywhere as much as the dollar goes down.........so to protect your wealth gold as a store of value would be a good choice (for those with alot of extra $...) savings would likely be reduced but on the plus side so would debt.......prices for food....and other consumer goods would go up....blah blah...........i don't know wether the dollar would survive this or wether they would say.....ehhh 1 old dollar = 5 new NAU dollars....or 1 old dollar = 2 new dollars....

so i don't see a new reserve currency taking over the dollar....perhaps a basket of currency's will have a more equal weight..(but that would require Gulf country' selling oil in other currency's...(not sure how this happens with u.s military ).....but i think a co-ordinated devaluation may be more likely and have a similiar inflationary effect (with the benefit of reducing debt) and the connected investment class would likely benefit the most from this (they have the $ and knowledge to invest).......One potential wild card to STIFF/ decrease... gold buyers would be creating a VERY large tax due when someone sells gold..but this isn't in the works now.....(and one could buy fine 24K jewelry to circumvent this lol)....



[edit on 22-5-2009 by cpdaman]



posted on May, 22 2009 @ 09:13 PM
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reply to post by cpdaman
 


Great to see someone with a grasp on the current situation. Any thoughts on China and Russia?



posted on May, 22 2009 @ 10:00 PM
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reply to post by bismarcksea
 


It's much, much more complicated...

While we allow the banks to regulate the fiscal economy, you have to think... who knows the economy more, economist/bankers or lawyers?

The Dollar is OUR Dollar.. it's not the banks, and their intrest is in protecting our fiscal dominance..

I believe failed banks should fail, but it would mean destroying our economy: double edged sword.

The reset button, if you enjoy you're livelyhood... is not an option...

Our economic empire is coming to an end. Either a graceful walk to the finish or a chaotic fall into the abyss.



posted on May, 22 2009 @ 10:07 PM
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reply to post by cpdaman
 


70% of our gdp is consumer spending.. internally revolving "wealth"... take the reserve currency status from us and our currency crashes.. y
We cannot sustain an economy generating real wealth if our second greatest asset is the ability to spend our money...



posted on May, 22 2009 @ 10:29 PM
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Originally posted by Tentickles
reply to post by cpdaman
 


Great to see someone with a grasp on the current situation. Any thoughts on China and Russia?


china and russia probably don't like being surrounded by U.S miltiary (bases) and missle "defense" shield

otherwise i dunno....at one level there is Corporations and banking interests that hold alot of sway over soverign governements i think there influence may be pushing for regional blocks.....on another level certain banking interests may have ties with Defense company's and guess what when the ole economy ain't that hot....certain connections between finance (perhaps formerly of intelligence organizations).....and Defense contractors may be struck.....(with the help of intelligence organizations) to finance military adventures ....but i'm not sold on this .....i think pakistan and iran are most likely areas for conflict

..also lots of people say......ohh should china stop buying treasury's....then the dollar will collapse....but even though they are the biggest (individual) foreign debt holder they hold something like 7% of the total....so nothing earth shattering......also they continue to need to hold dollars in reserve because they are buying oil from



posted on May, 23 2009 @ 01:49 PM
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Originally posted by Rockpuck
reply to post by cpdaman
 


70% of our gdp is consumer spending.. internally revolving "wealth"... take the reserve currency status from us and our currency crashes.. y
We cannot sustain an economy generating real wealth if our second greatest asset is the ability to spend our money...


You sir, indeed have a godlike wisdom on this subject.

Hit the nail right on the head. A Consumer economy doesnt last if the consumers dont consume.



posted on May, 24 2009 @ 12:19 AM
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Originally posted by Tentickles

Originally posted by Rockpuck
reply to post by cpdaman
 


70% of our gdp is consumer spending.. internally revolving "wealth"... take the reserve currency status from us and our currency crashes.. y
We cannot sustain an economy generating real wealth if our second greatest asset is the ability to spend our money...


You sir, indeed have a godlike wisdom on this subject.

Hit the nail right on the head. A Consumer economy doesnt last if the consumers dont consume.


A consumer economy doesn't last if the consumer doesn't consume....well ya......... but it can hang on pretty well ....especially w/ the World's Reserve curency.........

also losing the world's reserve currency could happen
a/ very slowly
b/ all of a sudden

and if it's B the state of the economy would still depend on wether we now share the crown w/ one or two other currency's in a "basket" or if the dollar's weight in the world markets would fall below another country's or two......this would make things much worse

however the collapse in consumption is estimated to be from 70% of GDP to 62-63% of GDP......taking a worse then expected fall would give you i.e 60%....

then what will happen (and is ) is that Gov't spending will pick up alot of the GDP slack from consumption........

although there are two other measures that make up GDP as well and even with gov't increasing spending (stimulus bills/war spending) GDP is still falling 5-6% annualized over the last 2 quarters

the problem with increasing gov't spending.....is finding someone to finance it...........this is very difficult when other nations are following in the US footsteps and increasing spending themselves.......so in order to find enough buyers for the treasury's being sold ......the FED has and is likely to step in and buy the debt

referred to as monetization..............now were the USA the only country doing this ....this would be very bad for the Dollar....but the UK, parts of the Eurozone and Japan are/will be so they are in a very similiary boat.........

remember the dollar index is made up of primarily the EURO (58% weight) and the Yen....also to much lesser degree's/weights....the....Pound..canadian dollar....Corona (sweeden) ....Swiss franc.........with declining percentages....

so relative to other currency's like the EURO/ YEN /POUND the dollar may be fairly stable considering the spending programs there...

now against gold? that may well be another story

will monetization of say 1 trillion in treasury debt by the fed lead to inflation like many pundits believe.....i remain to be convinced that this money will get into the real economy....i.e businesses/consumers......rockpuck are you aware of why monetization seems to raise inflation fears so much.....and is this based on normal lending enviornments .....perhaps when the fed is paying intrest on excess reserves this encourages banks not to lend ( which could be argued is a unintended consequence).....

I personally think many economists talk up Inflation like it is inevitable in order to MOLD investor and consumer behavior and get people to start buying stuff (instead of thinking they could wait for lower prices).....



[edit on 24-5-2009 by cpdaman]

[edit on 24-5-2009 by cpdaman]



posted on May, 24 2009 @ 12:55 AM
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Originally posted by Tentickles

Sum it up for me...
The Reserve Currency is the money most countries pay their debt in. The US being the reserve holder has a large presence on the international stage because of this. If the US were not the reserve currency, like is slowly happening now, bad things shall happen for it's citizens. Usually under the lines of inflation on nearly everything, higher unemployment, longer recession/depression and people just being plain mad.


There you have it folks. I hope this has helped you understand the world alittle better.

Feel free to comment and add any information you find relevant.



What is the US's reserve currency ? Do we have one ?



posted on May, 25 2009 @ 04:06 PM
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reply to post by LucidDreamer85
 


I have no idea. I tried to answer that question myself I just couldnt find it.
If anyone have this answer please feel free to post it.





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