The world’s dollar-dominated monetary order has serious instabilities that can best be fixed by central banks explicitly coordinating policy, Claudio Borio, the chief economist of the Bank for International Settlements (BIS), argued in a new paper.
“The Achilles heel of the international monetary and financial system is that it amplifies the key weakness of domestic monetary and financial regimes, i.e. their inability to prevent the build-up and unwinding of hugely damaging financial imbalances,” Borio wrote. The “most ambitious possibility would be to develop and implement new global rules of the game that would help instill greater discipline in national policies.”
As the global economy shudders at the prospect of a simultaneous slowdown in China and tightening of monetary policy in the US, more attention is now being paid to the cost that
countries pay when monetary or fiscal policy in other jurisdictions changes direction. Most prominently, Reserve Bank of India Governor Raghuram Rajan has argued that policy needs to be explicitly coordinated to avoid such harmful spillovers.
“How far away is the international community from finding adequate solutions? The answer is a long way,” Borio said. “There is no doubt that the dominance of one currency creates challenges” for the global system, he said.
The paper cites research showing that the dollar is involved in about 90 percent of all foreign-exchange transactions, accounts for 60 percent of official foreign-exchange reserves as well as debts and assets outside the US The euro came in a distant second at about 25 percent, Borio wrote.
As the interests of domestic policy usually give little space to consideration of the spillovers to others, Borio argued that this gives rise to financial imbalances elsewhere that can “take the form of unsustainable credit and asset-price booms that overstretch balance sheets on the back of aggressive risk-taking.”
Three levels of cooperation would be feasible to lower the chances of a
repeat of the 2008 financial crisis.
, Borio wrote. What may not be helpful is “more pluralism” in the makeup of international currency markets, he said.