Tags: Prasad | renminbi | reserve | currency

Cornell's Prasad: Yuan Far From Challenging Dollar as Reserve Currency

By    |   Thursday, 15 May 2014 02:03 PM

While some economists say the yuan one day will replace the dollar as the world's primary reserve currency, Cornell University professor Eswar Prasad says it's not going to happen anytime soon.

"China has a long way to go before its currency can rival − let alone displace − the dollar as the dominant global reserve currency," he writes on Project Syndicate.

Of course, China is a major player in international trade and finance, says Prasad, former head of the International Monetary Fund's financial studies division. And its government has made significant reforms to open the economy.

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"All of this will strengthen the renminbi's claim to reserve-currency status," he writes. "But China is missing one crucial ingredient: the world's trust. To achieve currency dominance, China needs ... a more credible set of public and political institutions. And it is here that the U.S. shines."

That was demonstrated after the financial crisis, when the greenback strengthened as global investors turned to Treasurys as a safe haven.

Foreign central banks have kept the dollar's weighting in their currency reserves since the crisis, Prasad says.

"This can be explained partly by the fact that the United States boasts the world's deepest and most liquid financial markets," he writes.

"But the most important factor supporting America's currency dominance is the institutionalized system of checks and balances that operates among the executive, legislative and judicial branches of its government."

Democracy makes a difference, Prasad says. "With the U.S. government forced to answer to its citizens, it is unlikely to resort to inflationary debt financing."

China, on the other hand, is a single-party state that is rife with government corruption, he writes. "The reality is that, despite China's economic heft and low central-government public debt, foreign investors are unlikely to trust China with large sums of money."

After letting the yuan appreciate against the dollar for years, Chinese authorities pushed the currency back down earlier this year. The dollar has climbed 3 percent against the renminbi since January 27.

China's central bank is estimated to have spent more than $100 billion intervening in the currency market during the first quarter to depress its currency.

Chinese officials reportedly sought to punish speculators, but some experts say China is merely trying to boost its exports. And the Treasury Department criticized the Chinese government for its actions.

Meanwhile, China's real estate market, which some analysts have called a bubble, has shown signs of slowing down. Home sales dropped 18 percent in April from March, according to official data.

"You can't predict how the bursting of a Chinese real estate bubble plays out because it plays out in very small steps," Joel Rothstein, a partner in the Beijing office of the Paul Hastings law firm, told the New York Times.

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While some economists say the yuan one day will replace the dollar as the world's primary reserve currency, Cornell University professor Eswar Prasad says it's not going to happen anytime soon.
Prasad, renminbi, reserve, currency
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2014-03-15
Thursday, 15 May 2014 02:03 PM
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