Publication of Economic Note 13 on The Role of Gold in the New Financial ArchitecturePress Release 09 Dec 2010 10:15 am
Following the Publication of on the Case for Gold in the GCC, the Dubai International Financial Centre (DIFC) published a new on The Role of Gold in the New Financial Architecture.
Economic Note 13 looks at how gold can become a partial anchor for monetary aggregates in a world that is increasingly multipolar.
The international role of a currency depends on the weight of the issuing country in the global economy. With the shift of the world's economic epicenter to the East and the growing importance of emerging markets (foremost China and India) it will be increasingly difficult for the US to back the role of the dollar as the main medium of exchange and transactions in world trade and international capital markets. In fact, as famously pointed out in the '60s by Robert Triffin, the country issuing a reserve currency needs to run a current account deficit, to provide international liquidity. However when the size of this current account becomes too large, the country accumulates an unsustainable external debt due to the burden of debt service.
In short, the size of the dollar liquidity necessary to finance global trade and capital movements will, in the near future, outweigh the size and the capability of the of the US economy to sustain it. Hence in a multipolar world where the economies of China and Euroland have a size on par with that of the US, the international role of the dollar would come increasingly under strain. Furthermore, the significant role played by other countries, such as Brazil, the GCC, Korea, South Africa, on the world stage will lead to a more decentralized network of financial centers unlikely to be revolving only around the US dollar.
The note argues that this situation needs to be addressed by considering an alternative source of international liquidity. Specifically it suggests creating a "Hard SDR". The SDR is issued by the IMF and used in transactions among central banks. Currently it is linked to a basket of major currencies but its supply is not sufficient to provide a viable alternative as an international reserve asset. The Hard SDR, especially in these testing times when investors' confidence in paper assets is irremediably dented, should be pegged to a basket with a significant weight attributed to gold. Gold has represented historically a hedge against traumatic events such as inflation outbursts or major financial breakdown.
In particular, Dr Nasser Saidi suggests:
"International liquidity should be supplied on a large scale by an international currency such as the SDR, whose value should be tied to a basket of major currencies and gold, with the weight of the latter set at 20-25%."