Saturday, March 14, 2009

Thoughts on univeral currency

This article about a Nobel-prize winner backing a call for a global currency reminded me that I've been meaning to blog about kinda the same idea (although I'm sure it differs in actual substance, since I haven't read his actual proposal which wasn't linked in the article). I've been thinking a bit about this in light of the US financial meltdown and subsequent heating up of the US dollar printing press, and how you could have a stable global currency with which to measure objective wealth, as opposed to individual currencies which are all fiat-based and readily manipulated by their controlling governments (usually to the detriment of holders of the currency, or debt denominated in the currency).

First, the problems that this idea would address. Currently, as mentioned, there's no good way to objectively track wealth. There are several bad ways which people use, for example: tracking currency relative to a "basket" of other currencies, holding precious metals, comparing currency exchange rates, etc. A second "issue" in global commerce is a trade agreement which makes the US dollar the settlement currency for international trade, something which has caused the US dollar to enjoy an advantage over other currencies, and to some extent distorted the effects of US currency policies. Finally, there's the inherent problem of fiat currency collapse, such as is seen in countries experiencing hyper-inflation, or where the government collapses due to currency devaluation.

Now, the classical proposal to fix the problems with fiat currencies is to adhere to a gold standard (or some other hard commodity-based currency), but I see that as fundamentally untenable, for several reasons. First, it's harder to exchange than most fiat currencies, especially in large quantities. Second, the supply is mostly fixed, but it creates an artificial demand for producing more of it (through mining, etc.), which is an economic waste of production. Third, there are legitimate policy reasons why countries may wish to manipulate the supply of their currency, and having a fixed-supply currency removes that ability (which is nominally why all countries have gone to fiat currencies). Forth, it would be rare for a country to give up its fiat currency ability, and likely impossible to convince all countries to do so. Lastly, there are alternative legitimate uses for most precious metals, and turning them into currency makes utilizing them for other purposes much more costly, which is bad for innovation and development. Which leads us to the next potential solution...

Another proposal is a universal fiat currency (as proposed in the article), but I think that is equally untenable as traditionally envisioned. You would have to subjugate individual country's currency manipulation to a global policy body of some sort, and judging by the extent of the nearly complete and unmitigated failure the UN has been in accomplishing any of its directives in that regard, I see that as unlikely. Furthermore, even if you could, there's the issue of printing and distributing actual money, handling security against counterfeiting, setting maximum money-creation ratios (through fractional reserves), etc.

What I would propose, instead, would be a global fiat currency controlled by a global body (eg: under the auspices of the UN), with a fixed amount in existence, but only used as the international settlement currency, and only held by nations to settle international trade. It can exist all electronically; there's no need to print or secure any physical representation. It would be held by all nations participating in international trade, and each nation holding any amount of the currency would be required on a daily basis to specify a price, in their native currency, at which they would be willing to sell their trade currency to any other nation, which will be honored for at least that day (or until their supply is gone). In addition, there should be a rule that no country is allowed to hold more than a fixed percentage of the world's supply at any point, to prevent hording to stall trade. The last part is that international trades would be priced and settled in units of the trade currency, instead of any country's currency.

How would trade work? The country selling would set a price in the trade currency. The buying country would then purchase trade currency on the global market, using the cheapest offered counter-party nation, based on national currency exchange rates and the prices for the trade currency set by the nations. In essence, the buying country would trade its currency for a third-party nation's currency, then buy trade currency from the third-party nation with its currency, then pay the seller in trade currency.

Why would countries not set trade currency prices as high as possible? Well, there would be disincentive to colluding with other countries to do so, because that would slow international trade. However, the stronger reason would be the trade price for the trade currency would implicitly value the country's currency relative to other nations: the higher the trade price, the less you country's currency is worth. Also, because of the fixed percentage limit, a country cannot hold that percentage and run a trade surplus (ie: keeping your currency pegged below trading value to keep your exports high); you would need to sell your trade currency in order to accept more (the only want to sell internationally), which would mean reducing the price until another country purchased some, which means your currency value implicitly floats.

Does it solve the problems as stated? Well, it certainly provides a reference for relative wealth with is not subject to changes in currency (you can value your wealth relative to the trade currency, for which there is a fixed amount). The US dollar would no longer have special status, removing the imbalances resulting from it. In the case of currency collapse, the presence of a stable international currency would hasten the process of establishing a new currency. It would keep nations happy and cause minimal disruption to normal people, as everyone could continue using and trading national currencies as is currently done, and nations would preserve their ability to manipulate their own money supply. A win all around.

Anyway, that was my thought on the subject; probably a little deep compared to my usual ranting, but I'm sure there will be more simple ranting in the near future. Thanks for reading, hope it was interesting. :)

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