The next big move for the dollar will come when the focus of market participants switches back to the structural imbalances that demand a lower dollar, according to Gilmore. April could be the month when this theme re-emerges, he says. The US treasury will be compelled in its foreign exchange report to Congress this month to name China as a currency manipulator for failing to let the yuan move more freely, Gilmore says.
Meanwhile, the Group of Seven industrialized countries, which meets in Washington this month, can no longer put off the adjustment process, Gilmore says. It is worth noting that G-7 officials led most of the major turning points in the dollar, such as the Plaza Agreement and the Louvre Accord, he says.
The Plaza Agreement in September 1985 involved coordinated intervention by the Group of Five to sell the dollar. The G-5 agreed at a meeting in New York’s Plaza Hotel that exchange rates should play a role in adjusting external imbalances and that the dollar had become too strong. In the Louvre Accord of February 1987 the major industrial countries agreed, at a meeting in the Louvre Museum in Paris, that the fall in the dollar since the Plaza Agreement had brought their currencies within ranges broadly consistent with underlying economic fundamentals, and the G-7 agreed to stabilize exchange rates.
“The longer the adjustment process is delayed, the more severe the process will be when it comes,” Gilmore says.
Meanwhile, the dollar’s share in world foreign exchange reserves is declining, but only because China does not reveal its rising holdings of dollars, says Brian Reading, economist at Lombard Street Research in London. China now holds 27.8% of total reserves of developing countries, up from 14.9% at the end of 1998, he says, adding that perhaps 90% of Chinese reserves are in dollars.
A new quarterly series from the International Monetary Fund showed that the dollar accounted for 66.4% of total allocated foreign exchange reserves worldwide as of the third quarter of 2005.
“There has long been an expectation that countries would sooner or later diversify their foreign exchange reserve holdings out of dollars,” according to Reading. Following what is happening, or more accurately what has not been happening, has been made a lot easier by the IMF’s release of quarterly figures on the composition of official reserves, he says. For many years, the only source of statistics for the currency composition of countries’ foreign exchange reserves came from IMF annual reports, which were outdated by the time they were published.
There has been no Asian shift out of dollar reserves yet, Reading says. While the IMF never reveals individual countries’ allocations, it publishes the totals for all contributors and the breakdown between industrial and developing countries. Nearly all of the industrial countries contribute data to the IMF, and they divulge what currencies they are holding their reserves in. Developing countries, however, are much more reluctant to disclose such information. Almost half of developing countries’ reported reserves remain unallocated. Meanwhile, three-quarters of the increase in world reserves since the end of 1998 was amassed by developing countries, Reading says. Since China, until July 2005, pegged its yuan currency to the dollar, it is virtually certain that most of its foreign exchange reserves are held in dollars, he says. When 90% of China’s foreign exchange reserves are added to the total of allocated dollar reserves, the combined share of the dollar in total world reserves appears to have fallen only slightly, Reading says.