“The outbreak of the [financial] crisis and its spillover in the entire world reflect the inherent vulnerabilities and systemic risks in the existing international monetary system,” Mr. Zhou wrote. He called for creating “an international reserve currency that is disconnected from individual nations and is able to remain stable in the long run.”
China has a strong interest in this issue. It holds perhaps $1.3 trillion of US Treasury and other dollar investments in its international reserves. These piled up rapidly in recent years as China sold far more toys, clothing, tools, and other goods to the US than it bought in the way of airplanes, machinery, paper, etc., from America.
US inflation ahead?
In an attempt to revive the American economy, Washington has been pumping vast amounts of dollars into the economy through extra federal spending and an extraordinarily generous monetary policy. This has aroused fears internationally that this policy might lead eventually to high inflation, in effect shrinking the value of dollar reserves. Foreigners withdrew capital from the US in record amounts in January.
There’s been talk that China itself might attempt to limit any losses on its stack of dollars by diversifying its reserves into euros and yen, or maybe even other currencies and commodities. But such a move could devalue the dollar on foreign exchange markets, result in Chinese losses on its dollar reserves, and threaten a global financial panic.
Zhou apparently recognizes chances of creating a really new international currency are probably zero. But by highlighting SDRs, Zhou, who has a doctorate in economic systems engineering from Tsinghua University, is recalling another period when the dollar was in trouble.