US Currency Hegemony Premium: Why the Federal Reserve Is a Currency Manipulator

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France

Most economists didn't begin to estimate how much the US dollar hegemony benefited the US until around 2000. I will generally sum up the operations of the "imperial theorem" or "power theorem" behind of US dollar hegemonic system.

 

 (1) The virtually unlimited issuance of US dollars for the purchase of global resources and commodities. In other words, as the issuer of the world's reserve currency, the US exports "liquidity service" while other countries pay consideration with their resources and commodities for their dollar reserves. The world demand for the US dollars (excluding the US) exceeds $500 billion each year.

 

(2) Imposing an "inflation tax" on the whole world, indirectly acting as "deadbeat" through depreciation of US dollars (depreciation of treasury bonds and other securities issued by the US).

 

(3) Purchasing industries and enterprises in other countries with US dollar credit.

(4) Investing in higher-yielding assets in other countries, but restricting foreign capital to control US enterprises or carry out foreign direct investment.

 

 (5)Manipulating exchange rates of the US dollar against other currencies to earn interest rate returns.

 

 (6)Swallowing foreign currency reserves accumulated by other governments through the scale effect and lock-in effect of the huge US dollar bond market. According to Professor Koerber from Harvard University, the greater the sums that foreign countries invest in US treasury bonds, the more difficult for them to get it out, and the higher the liquidity of the US dollar bond market, the fewer choices they have.

(7) Most of the US dollar assets of other countries are deposited in the US-owned banks, and foreign exchange reserves and investments of many countries are entrusted with the Federal Reserve, which effectively reduces international financial risks for the US and substantially strengthens other countries' dependence on the US.

(8) Since the US borrows money with its own currency, it need not deal with the problem of Currency Mismatch that troubles other countries. If any other country had experienced the US financial tsunami of 2008 it would already have gone bankrupt. The US, however, is secure and Bernanke can issue all the dollars he likes to rescue the market.

 

 (9) US dollar is the main settlement currency in international trade, and US companies don't need to bear the exchange rate risk.

(10) The dollar's status of hegemony ensures that the US has the final say in international financial rules, and absolutely controlling rights of World Bank and International Monetary Fund.

 

In short, the United States is a "mega-bank" or "giant venture capital firm," earning from high-yielding assets with low-cost liabilities (raising funds). Therefore, although the scale of its external liabilities is much larger than its external assets, it still has access to huge net income.

The estimates of two scholars, Pierre-Olivier Gourinchas and Helene Rey, are well known. After a detailed calculation, they said the average returns of US-owned foreign assets from 1952 to 2004 was 5.72%, while the average returns of US assets held by other countries was 3.61%, the difference of 2.16 percentage points being the equivalent of trillions of dollars.

 

What most interests me is that the two scholars separated the fixed exchange rate era from the floating exchange rate era in their calculations, and fully demonstrated that the floating exchange rate system has conferred huge benefits on the US. During the Bretton Woods fixed exchange rate period (1952~1973), the average return on foreign assets for the US was 4.04%, while the average yield of US assets held by foreign countries (US external liabilities) was 3.78%, and the difference between the two was only 0.28 percentage points. During the floating exchange rate period studied (1973~2004), the average returns of US-held foreign assets increased to 6.82%, while the average yield of foreign-held US assets decreased to 3.50%, with the gap ballooning to 3.32 percentage points.

 

In 1976, the US government asked the International Monetary Fund to amend its charter to promote floating exchange rates to the whole world. The chairman of the House Financial Services Committee declared that floating exchange rate would better serve the US. Gourinchas and Rey have proved with precise figures that the floating exchange rate indeed brought great benefits to the US.

 

The period of 2001 to 2006 was when the US dollar depreciated greatly against other major currencies and when the US intensely pressed RMB to appreciate. During that period, $3.209 trillion was lent to other countries by the US, but its net debt was $199 billion less, which means it earned $3.408 trillion, the sum of its defense and military expenditure for six years. And it earned $892 billion through exchange rate depreciation and $1.694 trillion through the gap between assets and liabilities. In other words, dollar hegemony provides super interests for the US, and other countries "pay the bill" for its massive military spending.

China's huge foreign exchange reserve invested in American bonds is the most typical low-yielding assets. I think that the main source of US dollar hegemony is the Fed's manipulation of global currency exchange rates and the US government's global financial and investment policies.

(The author is Professor of Huazhong University of Science and Technology)