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G8 not likely to discuss reserve currency: analysts

(Agencies)
Updated: 2009-07-02 13:24

NEW YORK: Foreign exchange investors reacted quickly to news from anonymous sources that China is requesting a reserve currency debate at next week's meeting of the Group of Eight economies, but few believe it will happen.

While the euro, the only possible alternative to the dollar as an international medium of exchange, spiked after the story ran on Reuters, analysts said the reaction was overdone.

"If it becomes an official topic, there will be a knee-jerk reaction, but most countries have the view that it will be hard to abandon the US dollar." said Fabian Eliasson, vice president of currency sales at Mizuho Corporate Bank.

The debate centers on proposals by some emerging powers that an alternative should be found to the US dollar as the global reserve currency to reflect the shifting balance of power in the globalized economy.

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Any moves away from the dollar would obviously see the US currency weaken and add to volatility in asset classes beyond foreign exchange since major commodities are denominated in dollars and most nations, including China, hold billions of dollars in US debt. The value of all those assets would also erode with any drop in the dollar.

Zhou Xiaochuan, China's central bank governor, said in March the world should consider using the International Monetary Fund's Special Drawing Rights (SDRs) as a super-sovereign currency.

The G8 meets July 8-10 in Italy but Eliasson said nothing will change and the topic of an alternative to the dollar is an old story.

"As soon the headline pops up there is a knee-jerk reaction," he said.

The euro extended gains and rose as high as $1.4201 after the story reached investors, its highest since June 5 and last traded up 0.9 percent at $1.4163. The euro changed hands around $1.4131 before the news.

Marc Chandler, chief currency strategist at Brown Brothers Harriman, was quick to dismiss the news in a note to clients.

"Central bankers do not attend G8 meetings and that alone may limit such discussions," Chandler said.

He pointed out that any reforms would be a multi-year process with no immediate impact on the dollar.

Chandler added the International Monetary Fund would be the more appropriate forum for any discussions on reserve currencies and that any changes would have to have US approval.

Mizuho's Eliasson was more succinct.

"I don't know what the alternative would be," Eliasson said.