Robert Mundell On One World Currency and Africa
Yesterday, I had an opportunity to speak with the winner of the 1999 Nobel Prize in Economics, Robert Mundell. The occasion was the IMF's seminar "One World Currency: Destination Or Delusion?" Mundell, a professor of economics at Columbia University, is in the minds of many, the best economist in the world, particularly when the subject under discussion is international monetary regimes.
Mundell has long advocated optimal currency areas, where various nations agree to lock their currencies together at a fixed rate of exchange. It was Mundell who provided much of the intellectual basis for what eventually has become the European Union (EU).
Yesterday, the subject under discussion was whether there is any legitimate possibility or even a desire for the world to move to a single currency.
Yesterday, Mundell offered his view that he couldn't imagine a single currency in the world, partly because he believed it might be politically impossible to arrange. "I couldn't imagine a world democracy with a single currency, it would have to be under a world dictatorship", Mundell stated. And he believes that such a world dictatorship is unlikely and undesirable, as it would probably be imposed.
However, Mundell did say that he believes that rather than thinking in terms of a single currency, it is much more interesting to think of what he called a "one world currency area". Such an arrangement would exist when other countries in the world keep their national currencies but tie them to an anchor currency or commodity or a basket of several currencies and/or commodities.
Mundell offered that the old international gold standard was a single currency area whereby each country in the world had its own currency but where all currencies were tied to gold or tied to the US dollar, which itself was tied to gold.
Mundell likes the idea of a single currency area where other countries tie their currencies to an anchor at a fixed exchange rate because it allows each country a measure of sovereignty and to retain its national pride while getting the benefits of a fixed exchange rate regime and superior monetary policy. Mundell mentioned the challenge that is posed to political leaders who use foreign currencies, as many inside of a country view such a decision as an affront to the citizenry.
Mundell says that countries can avoid such issues by keeping their national currencies in circulation but fixing them to an anchor currency at a fixed exchange rate and in effect, follow a currency board monetary system.
Mundell proposed this arrangement as a possible means of bringing the US, Canada and Mexico together in a monetary union. Both Canada and Mexico do not wish to "dollarize" or make the US dollar their official currency but would like the benefits of US monetary policy.
In order to accomplish this, Mundell proposes that Mexico and Canada fix their currencies to the US dollar under a currency board arrangement where the sole responsibility of the monetary authorities in Canada and Mexico would be to maintain the exchange rate between the Canadian dollar and the U.S. dollar and the Mexican peso and the U.S. dollar.
Mundell suggested that the peso be tied to the US dollar at the rate of 10 pesos to 1 US dollar. He also stated that he could imagine an entire world full of such currency board arrangements. A most interesting aspect of his presentation was the outline that he provided for how several countries could form a single currency area.
He stated that there are five elements necessary to the formation of a currency area and that Europe has all of them in the EU.
The five elements are:
1) A common policy target (which could be an inflation target).
2) A common measure of inflation (which could be an index).
3) Locked exchange rates
4) Common monetary policy
5) A method by which seigniorage (the profit generated from issuing currency) is shared among neighbor groups.
Any group of nations, in Mundell's view, would have to have these five elements for their monetary union to last.
Mundell also elaborated a bit more on anchors in today's world economy.
He said that there are only three types that he could envision working in today's international monetary system.
1) Gold. Mundell explained that he believed that gold could be an effective anchor if a policy that ensured that the price of gold remained stable could be executed.
2) Indexed SDR. Mundell believed that the IMF's basket of currencies, indexed for inflation, could make it a unit of account for other nations to anchor to.
3) G-3. Mundell offered that if the dollar, euro and yen came together and fixed their exchange rates together they could provide the most attractive anchor for the world.
As an example of this third option, Mundell theorized that the yen and dollar; dollar and euro; and euro and yen would officially convert with one another at determined rates of exchange. Mundell suggested that 100 yen could convert for one dollar and that 1 euro could convert for 1 dollar. Then, these 3 countries would work together as an open market committee to maintain these three rates of exchange, and Mundell stressed that they must establish an inflation target if their coordination is to work. Mundell said that managing a coordinated monetary policy like this would be no more difficult to arrange than for that of a single country.
He did make clear that the greatest challenge to such a G-3 coordination would be political and that the US would initially say no to such an arrangement because it would like to stay atop of the world's monetary policy power pyramid.
According to Mundell, "The superpower always rejects international monetary reform"
As an example, Mundell referred to the plans of Bretton Woods financial system architects, Harry Dexter White and John Maynard Keynes, in the 1930s and 40s, which contained provisions for a world currency; provisions which were scrapped by the United States.
But Mundell said that the US could be persuaded to join into such a regime if the euro and the yen decided to tie their currencies together first.
Such euro-yen unity would create a larger currency area than the U.S.
If Japan and Europe tied their currencies together, Mundell believes that the US "may find it in its interests" to join in.
I asked Mundell whether he felt that Africa had the necessary qualifications to establish what he refers to as an "optimal currency area" and Mundell said that he did believe the continent has what it takes.
He said that he has believed this for 30 years, having conducted a study for the United Nations in the 1970s on the effect that currency devaluations would have on Africa.
Back then, Mundell said that he believed that "it would be a good idea" for the nations of Africa to form a monetary union.
However, "the big issue that Africa has to be concerned with is how to arrange an anchor currency because they do not readily have a dominant currency to use on the continent."
Mundell suggested that Africa use a G-3 basket of currencies as an anchor.
I then asked Mundell, "What about gold as an anchor?"
And he said, "Yes, gold would be a good anchor for Africa but because one-fourth of the gold above ground is in the hands of the world's central banks, if these banks decided to sell gold into the market they could destabilize the gold price."
But if a way could be found to stabilize the price of gold, and protect it from the shock of a massive gold sell-off by the world's central banks, Mundell believes that Africa could form a monetary union in the form of a continent-wide gold standard.
Thursday, November 9, 2000