As trade war heats up, currency whales make their move

Bloomberg

For the first time in a decade, the world’s central banks are looking beyond the dollar to build their currency reserves.
With US protectionism on the rise, a number of Wall Street strategists say the case for the euro has rarely been better. Existential crises that hobbled the European experiment have receded. A resurgent economy has spurred talk the region’s central bank will curb policies that drove euro yields below zero. And as President Donald Trump threatens a trade war with China, the European Union is pursuing free-trade deals all across Asia and Latin America.
Of course, the dollar commands the lion’s share of the world’s $11.3 trillion of international reserves and most expect it to remain that way. But even a small shift — whether as a hedge against Trump’s trade policies or in the name of diversification — could have big consequences. After shunning the common currency for years because of negative interest rates and the region’s persistent turmoil, reserve managers at some of the biggest central banks are now looking to add more euros, according to two heads of foreign-exchange strategy who’ve held regular discussions with them.
“A lot of countries around the world are turning to Europe for increased partnership in trade,’’ said Jens Nordvig, who was Wall Street’s top-ranked currency strategist for five years running before setting up Exante Data a little over a year ago. “It’s not crazy to think that’s also going to be happening in the area of capital markets and reserve allocations. The bottom line is, this trade stance the US has now is not helpful in terms of making the dollar attractive” for central banks that hold billions in reserves.
Nordvig estimates a half-trillion dollars could flow into the euro in the next two years, equal to a 25 percent boost in the currency’s share of reserves.
Developing countries and oil-exporting nations in the Middle East, which rely heavily on international trade, are the most likely to lift their euro allocations, he said. Six emerging economies — China, Saudi Arabia, Taiwan, India, South Korea and Brazil — hold almost half the world’s reserves, data compiled by Bloomberg show. China alone has amassed over $3 trillion in foreign exchange — primarily as a result of its cheap exports to the US.
The ramifications of such a shift are significant. For over a half century, the dollar has been the reserve currency of choice for most of the world’s central banks because of its depth and stability in global markets. That status has given the US some notable advantages. It has helped America keep a lid on funding costs, allowing it to run budget deficits, as trading partners park their dollars in US government bonds.
The benefits also extend to American companies because the widespread use of dollars in global trade, such as for oil and commodities, often makes it cheaper for US multinationals to borrow vis-a-vis many of their overseas competitors.
Currently, about 64 percent of the global reserves are denominated in dollars. The euro, the only other primary reserve currency, has remained a distant second, accounting for 20 percent of official allocated reserves, or $1.93 trillion.
There’s been plenty of talk over the years about the need to loosen the dollar’s hegemony over the global economy, and the euro’s introduction in 1999 preceded a decade-long
decline in dollar reserves.