ON Oct 5, 2011, the Triffin International Conference celebrated the 100th year of birth of Robert Triffin, a Belgian economist who was trained in Harvard, worked in the US Fed, taught in Yale and then returned to Europe to help work on European monetary integration.
He was of course famous for the Triffin Dilemma, defined as the inconsistency between the domestic needs of the reserve currency country and the external needs of the world that uses the reserve currency. Put in another way, Triffin identified that the reserve currency country would have to run a current account deficit in order to provide the world with greater liquidity.
Over the long term, running cumulative current account deficits becomes a large debt overhang that is called the Global Imbalance.
Triffin wrote about the Dilemma in the late 1960s, when the United States was struggling whether to maintain its peg to gold, which it abandoned in 1971. This removed the anchor of the Bretton Woods system of fixed exchange rates, which had been in existence since 1947.
The succeeding Bretton Woods II, or non-system as some critics call it, has become a system of flexible exchange rates, plagued by financial crises every decade in the 1980s (Latin America), 1990s (Mexico and East Asia), 2007-9 (US subprime) and today, the European debt crisis.
Today, there is sufficient awareness that the shift from a unipolar world to a multipolar global financial system carries with it great risks and unknowns. The unipolar world of dominance by the US dollar had a lot of advantages, as long as the US remained the unchallenged hegemonic power. The US dollar became not only the standard unit of account for global trade, but also the deepest and most liquid market and an important store of value.
The price of oil, gold and other important commodities are all measured in US dollars. The US Treasuries market is the most liquid and efficient clearing system, which is one fundamental reason why the dollar remains superior to the euro, which does not have a single eurobond market, being divided into different national (German, French, etc) bond markets.
According to the BIS (Bank for International Settlements) April 2010 survey data, the US dollar today still accounts for 85% of global foreign exchange trading, compared with 39% for the euro, 19% for yen and 13% for sterling (because FX transactions are paired, total turnover sums up to 200%). By contrast, the Hong Kong dollar accounts for only 2.4% and the yuan 0.9% of turnover.
Because of its dominance in international trade and payments, the US dollar still accounts for nearly two thirds of total foreign exchange reserves. China alone reputedly holds roughly US$2 trillion in US dollar assets in the foreign exchange reserves and holdings by Chinese banks and state-owned enterprises.
In 2009, People's Bank of China Governor Zhou Xiaochuan called for the use of the SDRs (International Monetary Fund's Special Drawing Rights) as a possible global reserve currency. The logic for a globally issued reserve currency as opposed to a nationally issued reserve currency is impeccable. Nationally issued reserve currencies are subject to the Triffin Dilemma, because countries, however strong, will sooner or later go into deficit.
In other words, the whole global financial system is stable when the national reserve currency country is strong, but it will go into crisis, when the national reserve currency country goes into crisis. This is the current state of affairs.
The four reserve currency countries (US, euro area, Britain and Japan) accounting for just under 60% of world GDP are all in deep trouble. The US is running a current account deficit in excess of 3% of GDP and a fiscal deficit over 9% of GDP in 2011. At the end of 2010, the US had a gross foreign liability of US$22.8 trillion or 157% of GDP. Thank goodness that most of the debt is in US dollars, so that it can devalue its way out of debt.
The euro area as a whole has a smaller current account deficit of 0.5% of GDP, but if you look deeper, there are deep imbalances within the eurozone. Germany, the Netherlands and a few are in surplus, whereas the smaller countries like Greece, Portugal, Ireland and Spain all have net foreign liabilities exceeding 50% of GDP, an indicator of crisis using the Asian crisis experience as rule of thumb.![]()
