Transcript
Speaker: This is HSBC Global Viewpoint, your window into the thinking, trends and issues shaping global banking and markets.
Speaker: Join us as we hear from industry leaders and HSBC experts on the latest insights and opportunities for your business.
Speaker: Thank you for listening.
Speaker: Well, good morning and good afternoon, everyone.
Speaker: Thank you very much and welcome to a very exciting discussion with Professor Barry Eichengreen.
Speaker: I'm sure many of you have come across
Speaker: his works and studies in the past, looking at reserve currencies, digital currencies, how it can impact emerging markets.
Speaker: We've got a lot to talk about.
Speaker: My name is Paul Mackle.
Speaker: I run the Global FX Research Team here at HSBC.
Speaker: So on that note, it's a privilege to host Professor Eichen Green and over to you.
Speaker: Thank you very much.
Speaker: Thank you, Paul.
Speaker: So it's great to be back with you.
Speaker: So I'm going to talk about prospects for international and reserve currencies, inevitably, given current events touching on the digital.
Speaker: And my point of departure is a standard, but not uncontroversial observation, namely that a multipolar international monetary and financial system is coming, that the current dollar
Speaker: centric dollar dominated system cannot continue to prevail forever because over time, the United States will come to account for a declining shrinking share of the global economy.
Speaker: The dollar becomes a consequential international currency around 1925.
Speaker: And then after World War II, its progressive decline.
Speaker: So this is the emergence of emerging markets, if you will, the logic of convergence as other economies first Europe and Japan.
Speaker: And now emerging markets begin to close the per capita GDP gap.
Speaker: vis-a-vis the United States.
Speaker: Implication being that the US cannot provide safe and liquid assets to the world as a whole.
Speaker: all by itself indefinitely, because the ability of the US economy and the US FISC to stand behind those assets will be limited relative to the size of the global economy.
Speaker: Other sources of global liquidity will have to be developed.
Speaker: Other sources will have to step up.
Speaker: over time if we're going to continue to provide the liquidity that 21st century globalization requires.
Speaker: It could come about conceivably through an enhanced role for the International Monetary Fund's proprietary source of international liquidity, special drawing rights.
Speaker: It could come about through wider use of private label stablecoins.
Speaker: It could come about through wider international use of the euro, although my view is that for the time being, the euro is not yet ready for prime time.
Speaker: It could come about through wider international use of the Chinese renminbi, which similarly is not, in my view, yet ready for prime time.
Speaker: And finally, this more multipolar system might come about through sudden migration away from the dollar.
Speaker: That's at least a conceivable scenario.
Speaker: I am a longstanding SDR skeptic on the
Speaker: Michael Hanna, M.D.: Multiple grounds that if we look out there in the world, we see little private commercial and financial use of special drawing rights and so long as there is little private use of.
Speaker: Michael Hanna, M.D.: Special drawing rights for commercial and financial transactions there's little incentive for central banks and governments.
Speaker: to hold reserves in that form.
Speaker: And if those private agents are not doing transactions in SDRs, they have relatively little incentive to hold reserves in SDRs.
Speaker: And my forecast would be that this dearth of commercial use will remain the case for the foreseeable future.
Speaker: In addition, a true international and reserve currency has to have its own lender and liquidity
Speaker: provider of last resort to backstop the market in the US case, US Treasury bills that are held in large numbers by central banks around the world.
Speaker: And there is no SDR lender of last resort.
Speaker: The IMF is not authorized to inject large amounts of additional SDR denominated liquidity into the markets over a weekend.
Speaker: And it's not going to be so authorized in our lifetimes because it's not a global central bank linked to a global government.
Speaker: The way I think about it is so long as there is no global government, there won't be no global lender of last resort to provide this SDR denominated liquidity.
Speaker: More likely, I think, is that other national currencies will eventually compete with the dollar.
Speaker: So this was my view when I first began to write about this subject a decade or so.
Speaker: I thought the euro and the Chinese renminbi were coming and they're still coming, but they still haven't arrived.
Speaker: So what we've learned in the intervening decade is that there are formidable preconditions for competing with the dollar.
Speaker: The euro area has a price stability oriented central bank, which is one precondition.
Speaker: But the problem is the absence of a deep and liquid market in high grade, publicly issued euro denominated securities.
Speaker: In other words, AAA rated government securities that can be held as reserves by corporate treasurers.
Speaker: and central bank reserve managers outside the euro area itself.
Speaker: So the European Recovery Fund agreed to last year could change this over time if the European Union issues investment grade public label securities backed by the full faith and credit of European Union governments as a collectivity.
Speaker: But the existing 850 billion euro ERF is
Speaker: peanuts compared to the 20 trillion or so stock of US treasuries out there.
Speaker: So factors holding back the Chinese renminbi.
Speaker: One, it comes in the form of capital controls that remain that make it complicated to get in and out of Chinese financial markets.
Speaker: Over time, the Chinese authorities are committed to continuing to relax these and
Speaker: deep in the integration of their financial markets with those of the rest of the world.
Speaker: But I think they learned in 2015 from that bout of volatility that you have to do the financial deepening and strengthening of regulation first.
Speaker: and only afterwards relax capital controls to facilitate more cross-border transactions.
Speaker: Nowadays, probably the greater problem is that international investors, foreign investors, including central bank reserve managers, wonder whether the rules of the game will be changed.
Speaker: arbitrarily, because lots of rules affecting Chinese markets, Chinese regulation have, in fact, been changed recently.
Speaker: So if you can change the rules about who can do an IPO, can you change the rules about access to reserves held in Shanghai?
Speaker: Will an e-renminbi make a difference?
Speaker: Not immediately, because I think China's central bank digital currency, when it becomes widely available next year, will be widely available only for retail payments, only for relatively small transactions.
Speaker: There will be limits on how much of that digital unit you can hold in your wallet on your cell phone.
Speaker: The PBOC has reassured us, attempted to reassure us that confidentiality and anonymity will be maintained, that they will have access only to limited information about who is using the e-currency and what they're using it for.
Speaker: We will all need reassurance.
Speaker: The proof will be in the pudding there.
Speaker: So that will take some time.
Speaker: Finally, digital currencies more generally, I think for digital
Speaker: central bank digital currencies to compete with the dollar, they will have to be used, have utility for cross-border transactions.
Speaker: And that means they will have to be interoperable.
Speaker: So China has said that you're not going to be able to use the eRMB outside China itself, but if you can seamlessly exchange it for the eKorean won,
Speaker: or the e-Thai Baht, that will provide an alternative route to trading it for the dollar and then trading the dollar for the yuan.
Speaker: Indeed, possibly an attractive alternative.
Speaker: But this kind of interoperability is hard to achieve.
Speaker: Evergrande, will this change the attractions of the renminbi?
Speaker: going forward, clearly the meltdown of the Chinese financial system wouldn't be good for the Rinanbi's prospects.
Speaker: Obviously, I'm continued to be of the view that such a meltdown is unlikely.
Speaker: The PBOC recognizes its lender of last resort responsibilities, having already injected liquidity into the financial system through repos.
Speaker: It can compel the big banks to continue to provide essential funding to Evergrande while gradually selling off its remaining
Speaker: assets, its land, and so forth.
Speaker: And it's worth remembering how the dollar's role was not significantly tarnished by the subprime crisis because the Fed did act as liquidity and provider and lender of last resort.
Speaker: So unless this problem gets severely out of hand, which I do not think will be the case, I don't see this as changing the picture significantly.
Speaker: But I do worry about the debt ceiling problem.
Speaker: We have always averted debt defaults in the past in the United States when the debt ceiling has bound.
Speaker: So we've had the debt ceiling for over a century, since 1917.
Speaker: It was put in place for peculiar reasons during World War I that have nothing to do with
Speaker: present and whenever we've approached it we've managed to suspend it or raise it and my best guess is that we will succeed in raising it again and let me stop there all right well thank you very much i mean there was a lot of ground coverage and it certainly gives us a lot of
Speaker: avenues to roam in terms of topics.
Speaker: But I think probably a good place to start is I've always enjoyed reading your works about the multipolar system and how you're viewing it.
Speaker: But in the context of emerging markets, what's the outlook for them in this scenario?
Speaker: Are they just going to be lost in the shuffle or will they have to pick sides with countries within blocks or from a geopolitical angle too?
Speaker: How will they be able to navigate
Speaker: all these geopolitical tensions, et cetera, in the future?
Speaker: I don't think emerging markets will have to pick sides.
Speaker: When I think about this, I think first and foremost about Asia.
Speaker: So Asian countries, ex-China, trade equally with China and with the United States.
Speaker: They trade with Europe as well.
Speaker: So their banks and firms will be doing transactions with
Speaker: banks and firms in those other regions whose natural habitat is the renminbi or the dollar or the euro equally.
Speaker: So their central banks will want to hold each of those currencies as reserves so they can provide them to banks and firms doing business in that currency when liquidity is otherwise scarce.
Speaker: Their banks and firms will have all the advantages of portfolio diversification as well.
Speaker: in that scenario.
Speaker: So I think emerging markets will benefit from having more alternatives, not being dependent solely on the dollar.
Speaker: Yeah, I guess one of the issues, though, and even if we go back to March last year, when the kind of the COVID shock was first making its way through financial markets, you know, it once again highlighted the stress and strain on emerging market economies and
Speaker: how their need for dollars was just endless.
Speaker: I mean, it was just the dollar liquidity tightness was just so pronounced.
Speaker: And aren't many of these economies still so tethered to the dollar?
Speaker: So we can talk about the longer term change, but we've seen a number of examples of different shocks and it just seems like the need for them to own and hold dollars and have access to dollars
Speaker: is growing, it's not shrinking.
Speaker: Well, I think the need to ensure that they have adequate liquidity, which includes high on my list of what constitutes adequate liquidity would be adequate reserves for the central bank and adequate buffers for international buffers for private
Speaker: financial institutions.
Speaker: Things didn't turn out so badly in emerging financial markets in 2020.
Speaker: There was severe stringency at the outset.
Speaker: The Fed responded by pumping lots of liquidity into US financial markets and reactivating its swaps.
Speaker: And that, I think, relieved a lot of the initial stringency.
Speaker: So there still were problems of
Speaker: emerging markets being punished by financial markets, seeing their currencies decline, now being forced to raise interest rates and tighten despite the fact that recovery is still only tentative.
Speaker: But those severe liquidity problems were not as severe as many of us feared.
Speaker: And I think you're right that much
Speaker: too much hinges on the good offices of the Fed, the fact that the Fed recognized its domestic and global responsibilities.
Speaker: So again, I think the world will be a safer place from a portfolio diversification standpoint, if and when there are other liquidity providers of last resort.
Speaker: But for the moment, we're talking first and foremost, and really only about the Fed.
Speaker: A separate question, though, is you touched upon it earlier, too, about the dollar's reserve status and how a trigger of sorts needs to occur to probably see that change.
Speaker: There's been lots of theories and debates about it.
Speaker: But last year, it seems like the Fed really sat up and took notice of what was happening in the functioning of the U.S. Treasury market.
Speaker: And then it came out
Speaker: with that repo facility, because what was happening in the absence of that, you know, many countries and particularly emerging countries had to sell their treasuries.
Speaker: And do you think that that was a kind of a first glimpse of a trigger that maybe took the shine off the dollar as a reserve currency or is that just a blip?
Speaker: Yeah, I think what happened last year is a reminder that the dollar's international and reserve currency status is
Speaker: sound firmly entrenched because number one the fed did shoulder its responsibilities and number two we were again reminded that we don't yet have viable alternatives to the dollar out there so as i think about the scenario where
Speaker: The debt ceiling really is breached.
Speaker: And the Treasury announces that it is not going to prioritize the bondholders.
Speaker: You know, one scenario people talk about is that the Treasury decides to pay the bondholders in full to avoid a default on Treasury bonds.
Speaker: And it cuts everything else by 40%.
Speaker: which is roughly what would be required, will that trigger a move away from the dollar?
Speaker: I think the most likely answer is no, not in the short run, because the Fed would do again exactly what it did in March of 2020.
Speaker: It would ensure that the market and treasury bills continue to function.
Speaker: and that people who wanted to buy them, sell them and use them as collateral could do so.
Speaker: And again, investors would be reminded that they can't all get through the door into Euro-denominated bills and bonds at the same time.
Speaker: But, you know, bad behavior by the United States politically, financially, and otherwise will accelerate the movement away from the dollar that is currently occurring on a glacial scale.
Speaker: Right.
Speaker: I think that's very clear.
Speaker: I think that's a very, very, very interesting point.
Speaker: I want to come back to one of the comments you mentioned earlier about being a long time
Speaker: SDR skeptic and we know back in August there was quite a big allocation new allocation of $650 billion worth of SDRs meant to be going for pandemic relief.
Speaker: And I'm aware of your thoughts in terms of how you've been looking at that allocation and again in the context of emerging markets.
Speaker: Can you just share your insights on that?
Speaker: Because I know you have some strong thinking about it, which I think would be very valuable for the audience.
Speaker: So only a tiny fraction on the order of 5% of that SDR allocation went to poor countries.
Speaker: And if I remember the figure, something on the order of 40% and no more went to developing countries and emerging markets.
Speaker: The bulk of the SDR allocation went to rich countries that don't need it.
Speaker: that can print their own currency to provide liquidity without serious adverse consequences and of course have been doing so long before that SDR allocation.
Speaker: So I think the justification for the allocation was as part of a
Speaker: larger effort to pull those SDRs and lend them or give them to poor countries.
Speaker: So the give them part, which I think would be optimal, poor countries don't need more debt, which they would incur if they were lent these SDRs.
Speaker: Unfortunately, the aid or gift part isn't going to happen because in the US, it would require congressional
Speaker: We can't get congressional approval on anything at the moment.
Speaker: So second best would be to lend these SDRs to poor countries on highly concessional terms.
Speaker: And I very much hope that something along these lines will be announced.
Speaker: But I've been keeping my ear to the ground and I've been struck by the silence on what the plan is and whether there will be agreement on it.
Speaker: It does seem though that a number of emerging countries that really needed this funding have actually really welcomed it.
Speaker: So something's better than nothing.
Speaker: But I do think you make a very interesting observation about there's plenty of countries that got SDRs that it's just not, they just don't need it.
Speaker: So it says something about
Speaker: perhaps reform and how to benefit more as particularly very low income economies.
Speaker: Maybe just one other question in terms of reserve currencies and maybe we can steer the discussion into the digital aspect.
Speaker: And it comes down to, we've talked about the multipolar world.
Speaker: We've talked about how the renminbi is a reserve currency.
Speaker: It's very slow moving in terms of its evolution.
Speaker: It's getting there.
Speaker: But let's peer into the very, very far future.
Speaker: And is there a contender out there that you think has a chance to become a reserve currency?
Speaker: Is there anything on your radar that's flashing interesting, again, related to something in emerging markets, anything that stands out?
Speaker: So when I think about the preconditions for reserve currency, the recipe I always fall back on is it has to be the currency of a country with size, stability, and look, size, stability, liquidity, and security.
Speaker: Those would be the four elements.
Speaker: So start with the size that points you to Brazil, India,
Speaker: South Africa, maybe.
Speaker: And then you have to ask about the stability, political, economic, and financial.
Speaker: And in all these cases, there are doubts and questions that will take time.
Speaker: to resolve.
Speaker: But there is another scenario, I suppose, where instead of the dollar being felled by the Indian rupee, it's swamped by
Speaker: a collection of midgets.
Speaker: So that kind of brings us to the digital option that you want to talk about next, Paul, namely is the fact that network effects are important and the size of the economy is a precondition for widespread use of its currency.
Speaker: Is that situation going to change with central bank digital currencies?
Speaker: So everybody will be able to use the tie back and the
Speaker: Chinese renminbi equally conveniently, even though the market for one is an order of magnitude smaller than the market for another.
Speaker: But again, following your works on central bank digital currencies, you've also been a little skeptical about the need of them or potential success for them.
Speaker: It seems like many central banks, whether in the developed or developing world, are increasingly going down this path.
Speaker: Is this a flawed policy in your view for these central banks?
Speaker: No, I think it is concern about losing control of the payment system.
Speaker: Fundamentally, central banks rightly look back at the age when they relied when they issued paper currency and coin.
Speaker: And now they realize that they issue electronic liabilities to commercial banks, which turn around and provide currency services to their
Speaker: customers so they worry about moving into the digital age so if facebook could go down what assurance do we have that the central bank digital currency couldn't go offline
Speaker: due to a software update or a hack or whatever sometime in the future.
Speaker: So central banks, I think, are right to be moving slowly on this front.
Speaker: And I hope they will continue to move slowly, I think, because of concerns about bank runs and
Speaker: tax evasion and money laundering.
Speaker: They're going to limit the utility of their central bank digital currencies.
Speaker: So again, retail transactions, mainly domestic use, mainly.
Speaker: So how attractive an alternative to the dollar and eventually the euro and the actual existing renminbi will they be?
Speaker: I'm not sure.
Speaker: Yeah, I think that there's a valid point there.
Speaker: But another point, too, is you talked about the difficulty for
Speaker: these digital currencies to go cross-border.
Speaker: And, you know, there have been some tests and presumably there will continue to be a lot more tests.
Speaker: Do you think that there could be legal jurisdiction problems between countries that prevents central bank digital currencies from going cross-border?
Speaker: Do you think that some countries just say, I don't want that digital currency circulating in my domestic financial system, so I'm
Speaker: I'm going to not allow it.
Speaker: Could you imagine that type of scenario?
Speaker: Absolutely.
Speaker: So we have a century and more of history with capital controls.
Speaker: when governments have regulated what kind of financial instruments their residents can hold or who can hold their financial instruments.
Speaker: So yeah, I can well imagine that governments and central banks worry about currency substitution instead of dollarization, they worry about ERMB.
Speaker: and losing control of domestic monetary policy.
Speaker: for that reason.
Speaker: They will use regulation to prevent residents from substituting out of the local currency into otherwise easily available foreign central bank digital currency.
Speaker: I've no doubt that that's on the minds of central bankers and that we would see some of that if CBDCs became pervasive.
Speaker: But also some of the motivation too with
Speaker: with central bank digital currencies is to alleviate, if not hinder, the interest in cryptocurrencies.
Speaker: Some central banks have been very vocal about that.
Speaker: And so how do you view the competition between these two groups?
Speaker: And ultimately, will it be that CBDCs become the dominant force or
Speaker: Is the horse already bolted in crypto?
Speaker: That's it.
Speaker: It's just going to keep on getting bigger and more developed.
Speaker: Any insights on that?
Speaker: I think plain vanilla cryptocurrencies, the bitcoins of the world are likely to remain a niche.
Speaker: product.
Speaker: You know, people talk about $2 trillion of global capitalization or $2.5 trillion of global capitalization of cryptocurrencies, but that's still a drop in the bucket as an investment product.
Speaker: as a part of your portfolio.
Speaker: Therefore, the real competition for central banks will come from stablecoins.
Speaker: And I think they will be strictly regulated in order to prevent, limit the danger
Speaker: that they will take over the payment system.
Speaker: So ultimately, I think it, you know, for financial stability reasons, financial regulators will look at at plain vanilla cryptocurrencies and worry about whether there could be contagion problems or concentrated holdings and so forth.
Speaker: But central banks will look to the CBDCs and they will regulate them strictly.
Speaker: They will look to the stable coins.
Speaker: And
Speaker: El Salvador has been legalizing Bitcoin.
Speaker: How do you view this experiment?
Speaker: Are you doubtful or do you see any potential positives out of this approach by them?
Speaker: Because it's quite an interesting one for many economies right now.
Speaker: Yeah, I think it's insanity.
Speaker: And I've noticed that there have been street demonstrations against the legal requirement that corner stores and vendors and so forth have to accept.
Speaker: Bitcoin in payment because they they worry about it's gonna lose 10% of its value before they can offload it or whatever.
Speaker: So I think it's a publicity stunt.
Speaker: It's worth observing that El Salvador can play this game for a while because they already don't have a domestic currency.
Speaker: They use the dollar, the dollar, they're not giving anything up.
Speaker: And you're importing lots of potential volatility into your domestic financial system.
Speaker: Maybe just one final question from my side.
Speaker: And when we're thinking about the outlook for central bank digital currencies, and what about capital flight?
Speaker: I mean, and I think this is also relevant to the emerging world.
Speaker: Could this be a way to limit that if it's being used more in terms of domestic financial systems and
Speaker: the monitoring and usage of it is growing, could it actually curtail some of that capital flight amongst the emerging market economy?
Speaker: So viewing that as a positive potentially.
Speaker: Well, I presume that if you're holding the local CBDC, you can still sell that and convert that into other domestic assets.
Speaker: So I don't see the creation of a CBDC that can only be used locally as changing the scope for the
Speaker: capital flight, because you can still get into other local assets, which will whose conversion into dollars or whatever will will be as easy or hard as subject to capital controls or not, as it was in the past.
Speaker: The real worry here is about not not so much about capital flight abroad, I think, as flight from
Speaker: domestic bank deposits in the event of doubts about local financial institutions.
Speaker: And here, the treatment is to limit how much CBDC you can hold in order to prevent people from fleeing from domestic financial institutions whose stability is in doubt.
Speaker: Yeah, so I mean, if you go beyond a certain transaction level, raise a red flag.
Speaker: I'd like to thank Professor Barry Eichen Green.
Speaker: I mean, he's a great economic historian, economist, and I also like to give him the honor of being a visionary as well.
Speaker: I love reading his works.
Speaker: I think this has been a very engaging discussion.
Speaker: So once again, thank you very much.
Speaker: And it was a privilege.
Speaker: Thank you, Professor.
Speaker: Thank you.
Speaker: Thank you for listening today.
Speaker: This has been HSBC Global Viewpoint, Banking and Markets.
Speaker: For more information about anything you heard in this podcast, or to learn about HSBC's global services and offerings, please visit gbm.hsbc.com.
