The Cost-benefit Analysis on International Reserve Status: History from historical and theoretical perspectives

Abstract: International reserve currency (IRC) is the highest form of currency internationalization. Based on general cost-benefit analysis on IRC, this paper explains the condition and influence to become a reserve currency from the perspective of the correlation with trade balance, the capacity of external financing and the autonomy of monetary policy respectively. In the final, we come to the conclusion that the cost and benefit of the IRCs are closely related to the currency’s international status. Classification exists in the structure of the international reserve currency system, which are center and sub-center. The core of currency internationalization is a natural selection process promoted by market forces. We also realize that whoever overtakes shall have complete knowledge of and sufficient patience in the currency internationalization Key Words: International reserve currency, cost-benefit, trade balance, external financing, autonomy of monetary policy

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Chapter One: The General Cost-benefit Analysis on IRC

Section One: Basic Concept and the composition of IRC I. Basic Concept In a narrow sense, IRC refers to the currency used for the means of international payment. In a boarder sense, it equals to the international currency. Generally, currency internationalization is regarded as the evolvement of currency function from trade valuation and settlement currency, investment and financing currency to reserve currency. Therefore, IRC is considered as the highest form of currency internationalization and the appearance of IRC greatly reduced the cost of economic transactions in the world. There only exists one currency in the ideal international currency system (ICS), however, it is just an ideal assumption (Wang Huaqing, 2010). In different stages of ICS, the category of reserve currency is somewhat different. In the gold standard system, currency in each country contains legal gold content and the gold coin has unlimited legal tender. Therefore, gold is a natural international reserves currency. The earliest typical gold standard or gold coin standard was put into practice in the UK. At that time, due to the status of the UK in the world economy system, London became the global financial center, and then both Sterling and gold were used as international reserve currency. In Bretton Woods System, US pegged to gold turned into the center of ICS, and became the major reserve currency. In Jamaica System, the gold was demonetized, and IRC developed from monopolar pattern to diversification. In the following, US Dollar，Deutche Mark, Franc, Yen, new emerging Euro, and other fiduciary are included in the IRC system.

II. Main components of IRCs Since the establishment of Bretton Woods System，US dollar had become the center of ICS. Even after this system collapsed, US dollar remained the main currency used for international valuation, transaction and reserve. After the Euro emerged in the —2— world, depending on the comprehensive economic strength in Euro zone, the status of Euro in the IRC system went up steadily, and it became the second largest international reserve currency. The UK possessed a developed international financial market with history, and with the traditional advantages in the international business, Sterling still has a considerable influence. In addition, Yen, Australia Dollar, Swiss Franc and other currencies also play important roles in the IRC system. According to statistics made by International Monetary Fund (IMF), the total amount of international reserve currency sharply rises to USD11.6 trillion at the end of 2014 from USD 1.8 trillion at the turn of the century which has been increased by 5.4 times in the last fifteen years. The countries “producing” reserve currencies are different from the countries “consuming” reserve currencies. Most of the reserve currency in the world is held by emerging market and developing country. Foreign exchange reserve held by emerging markets and developing countries accounts for sixty percent of global foreign exchange reserves and this percentage basically has not been changed since the financial crisis in 2008. At the end of 2014, it reached 67%, increased by 32 points than that just before the Asian financial crisis in 1996. Emerging markets and developing countries holding so much foreign exchange reserve is the result of no alternative choices in the current ICS, known as the “original sin”. Many developing countries choose the export-oriented development pattern, as export and foreign direct investment have a remarkable impact on national economy. Holding considerable foreign exchange reserves not only is an inevitable result of accumulative trade surplus, but also to meet up with the potential demand to stabilize exchange rate and guarantee trade development (He Liping, 2008). Meanwhile, holding foreign exchange reserves is also a financial crisis prevention tool. Most developing countries experienced some period of foreign exchange shortage, and suffered from financial crisis, therefore, for them, holding foreign exchange reserves means a form of self insurance with defensive characteristics against speculative attacks from international capital (Heller，1996). Observing the global financial tsunami in 2008, although Russia, Korea and India and some other emerging markets experienced dramatic —3— exogenous shocks, large scale of capital outflow and sharp domestic currency depreciation, the large accumulation of foreign exchange reserve indeed played a role of “spare tire” to avoid financial crash and economic collapse (Guan Tao 2009). Figure 1: The Increase of Global Foreign Exchange Reserve (Unit: Hundred Million US )

140,000

D Million Hundred ollar 120,000

100,000 s Global Foreign Exchange 80,000 R全球外汇储备eserve

亿美元 60,000 US美元储备 dollar reserve 欧元储备 40,000 Euro reserve

US 20,000

0

Data sources: IMF. From above data, that main currency structure of IRC system is relatively stable. US dollar and Euro are the main reserve currencies. Meanwhile, the feature of US dollar being the single largest in the IRC system is obvious. At the end of 2014, the balance of global foreign exchange reserve is USD11.6 trillion, and among which, the composition of USD 6.1 trillion was disclosed with US dollar accounting for 62.9%, Euro accounting for 22.2%, Yen, Sterling, , and Swiss Franc respectively accounting for 4.0%, 3.8%, 1.9%, 1.8%, 0.3%, and Other currency in total accounting for 3.1%.

Figure 2: Main Currency Components in the International Reserve Currency (Unit: %)

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100% 90% Others 80% 70% EUR 60% AUD 50% CAD 40% CHF 30% JPY 20% 10% GBP

0% USD

2000 2002 2003 2005 2007 2009 2010 2012 2014 2001 2004 2006 2008 2011 2013 1999 Data sources: IMF. From this figure, we realize that the status of US dollar reserve currency is declining. The creation of Euro, a kind of super-sovereign currency, has been expected to shoulder the same international responsibility as US dollar does. In practice, the role of Euro on the IRC system is only second to US dollar. In addition, a tendency of “de- dollarization” appeared from the recent international financial crisis. This ideology is actively promoted by Russia and other emerging countries through trade settlement and payment system which further makes the status of US dollar, Euro and other reserve currencies decline. However, the powerful position of US dollar is difficult to be affected in the short term and international monetary system headed by US dollar shall not have disruptive change in the short period. Consequently, it is not pratical to expect super fast speed on the reform of ICS. The diversification of IRC is a long term process, and we may even say that there is no inevitable contradiction between that and US dollar still being leading role. (Zhou Xiaochuan, 2009; Guan Tao, 2014). Figure 3: Relative Decline of the Status on the US Dollar and Euro Reserve Currency (Unit: Hundred Million US Dollars; %)

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80.0 70,000

70.0 60,000 Total of disclosure currency on the global 60.0 foreign披露币种的全球外汇储备 exchange reserve (Hundred Million US

Dollars, right axis) 50,000 Million US Hundred 合计（亿美元，右轴）

50.0 USD份额 % D USD share % 40,000 ollars 40.0 EUREUR 份额share %

30,000 30.0 20,000 20.0

10.0 10,000

0.0 0

1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Data sources: IMF.

Section Two: The benefits of international reserve currency for the issuers Different paths were taken to become main reserve currencies from historical view, as their status is the consequence of “system design” of ICS, with the inner tendency of self-reinforcement and to a great extent, it is also the result of market natural selection, with the comprehensive reflection of various advantage of reserve currency issuing countries. Reserve currency is able to bring some apparent and recognized benefits. I. Seigniorage refers to direct and measurable returns from reserve currency. In the context of fiduciary currency system, although Seigniorage has changed the traditional connotation, its existence is widely proven. The idea that Seigniorage shall be obtained by issuing countries of reserve currencies has been verified by Aliber （1964）, Cohen（1971）, Bergsten（1975）, Tavlas（1997）. It is measured by Chen Yulu.etc (2005) that from the establishment of Bretton Woods System to 2002, US dollar seigniorage approximately accumulates to a trillion US dollars, which equals to 0.66% of the United States’ GDP. Seigniorage from Yen approximately equals 0.46% of Japan’s GDP. As Quantitative Easing Policy is performed by many countries in the financial crisis, countries such as the U.S. also acquires higher earnings from

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Seigniorage. II. Reserve currency is beneficial for the trade development of issuing country. For the main reserve currency, when domestic enterprise is conducting their international business, import and export is valued and settled by domestic currency. In this case, the exchange fees and exchange rate risk shall be reduced. For example, for US dollar, the accumulation returns accounts for about 1% of total volume of import and export trade (Zhou Xiaochuan, 2009). Besides, reserve currency has a great advantage for the adjustment of trade balance of issuing country. For non-countries issuing reserve currency, when there arises disequilibrium of balance of payments, especially when current account arises surplus or deficit, it needs foreign exchange reserve to supplement. However, issuing countries of reserve currency are able to make settlements by domestic currency and the deficit shall not result in payment crisis. It is indicated by research that when ICS is dominated by single sovereign currency, the total demands of IRC in the world is the total amount of international payment deficit in the reserve currency countries. The issuing countries of reserve currency can obtain financing of international payment deficit by issuing currency. As a result, the adjustment cost will be imputed to other countries (Shi Weiqi, 2014). III. Reserve currency gives reserve countries the ability to borrow overseas Reserve currency in overseas market shall be regarded as loan with no or low interest obtained by the currency issuing authority (Neumann，1992；Zhang Yuyan, 2008), which means borrowing overseas by using domestic currency. Moreover, in this way issuing countries have no problem of currency mismatch, and instead, exchange rate risk shall be imputed to the holder of reserve currency. Observed from the status of US dollar reserve currency, it is found that the lower degree of the development of one country's financial market, the more dependence on the USA financial assets and financial market of this country, and the more closely trade connection of a country with the USA, the more liabilities of the USA to this country, meaning the more dollar asset held by this country (Forbes，2010). One of the important reasons why US dollar has a sustainable power to borrow —7— overseas is its developed financial market. Even during the period of subprime mortgage crisis, American financial market condition is not completely deteriorated. From the view of the freedom of the USA financial market, the opening degree of capital market and the capacity of the capital market，the development degree of US financial markets remains the leading one in the world (Mendoza，2009). The restraint on US dollar to borrow overseas is a soft budget. The majority of overseas borrowing of the USA does not require paying back with actual resources and the returns obtained from US dollar exchange rate movement, currency inflation and the USA foreign direct investment etc. will reduce the oversea debt. the USA attracts the debtors all over the world due to this soft budget of borrowing capacity (McKinnon，2001). IV. Reserve currency is also beneficial for issuing countries to maintain the status of international finance centre Non-resident especially foreign official institutions hold international reserve currency in the form of financial products, for example, governmental bond of reserve currency country. It will stimulate the issuing country to give priority to develop financial products and improve the convenience to make financial transactions. It is also favorable to activate financial transactions, and enhance the country’s status of being financial centre (Zhang Yuyan, 2008). However, some research also indicates that this relationship is not necessarily that impressive (Zhou Xiaochuan). V. Reserve currency also brings the advantage to obtain benefits beyond economic field. The benefits beyond economic field are demonstrated in obtaining currency power (Peng Xingyun, 2010), improving international status and other “soft power”(Benjamin，2009). When sovereign currency becomes IRC, to some extent, monetary authority shall serve as the central bank of the world economy, and its liabilities shall act as standard of value and the final means of payment. The domestic adjustment of interest rate and variation of currency supply shall become the important factors to affect global monetary policies. Empirical evidence shows that in financial crisis, there is no need to depend on other countries to obtain liquidity —8— support, such as Bank of England before World War II and Federal Reserve over half a century. Depending on the international monopoly of US dollar, the US frequently carries out financial sanction to others which is also an important form to maintain and show the power of US dollar (Xu Yisheng, Maxin, 2015)

Section Three: The costs of international reserve currency for the issuers Every coin has two sides. Reserve currency also incurs certain costs, including the cost brought by Triffin Dilemma, foreign interest payment, and factors that may lead to internal imbalance(Benjamin，2009). I. Triffin Dilemma is the fundamental contradiction between reserve currency system and creation mechanism of international liquidity US dollar serves as reserve currency on the basis of trade deficit of the USA. However, large and continuous trade deficit shall result in losing confidence in the dollar-gold standard (Yu Yongding, 2009). During the middle period of last century, when the economy of Japan and Germany took off and export grew fast, US dollar faced confidence crisis. As a result, US dollar’s peg with gold was broken and Bretton Woods System collapsed. In the age of complete sovereign credit system, with no peg with gold, Triffin Dilemma still exists for reserve currency. For example, the core problem of a decreasing confidence in the US dollar has shifted to the one that the US scale of external government debt has accumulated to the extend beyond its diminishing fiscal capacity (Pan Yingli, 2014). II.Issuing countries of reserve currency are confronted with the risk of sovereign debt and the challenge for monetary policy autonomy. In order to meet the world-wide demands for reserve currency, it is required that countries of reserve currency should issue large amount of government bond. Even with the low interest rate, the accumulative scale is still large. Meanwhile, the sustainability of government debt can also be a problem as the sovereign debt crisis repeatedly occurs in recently years. For the close connection with the international market, issuers are easier to suffer —9— reverse impact of economic risk from abroad, thus the domestic monetary policies are more vulnerable to be hindered by external factors, and get the autonomy jeopardized. According to “The Impossible Trinity”, under pegged exchange rate system, currency internationalization may destroy central banks to control monetary base; in the floating exchange rate system, currency internationalization may cause drastic fluctuation of the exchange rate, and affect the effectiveness of domestic monetary policy. Either in pegged exchange rate system or floating exchange rate system, the liquidity of reserve currency, to a great extent, is determined by the preference of non-resident currency holder. Thus it shall impair the effects of issuers’ policy. At the same time, currency internationalization shall make the currency authorities hard to monitor and manage money stock which will weaken the leverage of interest rate, and cause the failure of interest rate transmission mechanism. In addition to this, currency substitution arising from the development of offshore market and interest margin between domestic currency and foreign currency shall also increase the difficulty for issuers to regulate and control and the independence of currency policy gets jeopardized. III. Reserve currency may bring internal imbalance in the long term When sovereign currency becomes international reserve currency, it is helpful to improve external account, and reduce the external risk. However it may cause risk accumulated domestically and exacerbate the disequilibrium of internal economy. Trade deficit in the issuing countries of reserve currency is the source for foreign exchange reserve in other countries. In the short term, it shall not bring much pressure, but it is likely to establish accumulative contradiction. Such as, the widening gap of trade imbalance, the tendency to decrease saving ratio, and the impaired policy regulation. All of these phenomena have turned up in the USA. Furthermore, large amount of US dollar return to the USA through channel of private sector investment or the foreign exchange reserve. While this mechanism enables the USA capital market to maintain low interest rates, some risks such as the real estate bubble and financial bubble are brought up and unhealthy assets are generated (Yu Yongding, 2009). The key factor affects whether US dollar can keep its status of reserve currency —10— is whether there arises improper economic policy that will cause US dollar depreciation and the USA inflation, which will reduce the appeal of US dollar as reserve currency (Eichengreen，2005). The returns of reserve currency in the short time may result in policy negligence in the long time. During medium and long term, the issuers may face with the adjustment dilemma that is hard to get rid of, where the disadvantages accumulated in the long run may be greater than the total benefits from the short term.

Section Four: Research Arrangement in the following paper  Above-mentioned analysis about costs and benefits of status of being reserve currency is decentralized in framework and not systematic in structure. In the following part, we will inspect the empiricalperformance of different-leveled reserve currency and the underlying reasons from the perspective of its relation with trade balance, external financing and monetary policy from historical and theoretical perspectives. The following is described in 4 chapters: the second chapter analyzes whether trade deficit is the precondition of turning into reserve currency from the perspective of trade balance and if trade deficit will affect reserve currency to exert functions. Meanwhile, the second chapter explores whether there exists necessary relation between trade deficit and the status of reserve currency. The third chapter concentrates on the difference in external financing for reserve currency in different status and discusses the factors of determining overseas borrowing ability. The fourth chapter discusses whether the status of reserve currency influences the autonomy of monetary policy. On the basis of above analysis, the fifth chapter sums up the main conclusions and inspirations, that is, the costs and benefits of being a reserve currency are closely in association with the hierarchy of status of reserve currency.

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Chapter Two: Reserve Currency and Trade Balance Section One: Development of Trade Balance Concerning Issuing Country of Reserve Currency I. The Internationalization of worldwide main reserve currency in history started with trade surplus The functions of international currency fall into 3 types: one is acting as medium of exchange, that is, international currency is privately used as payment currency during trades and capital transactions and also used by authorities to intervene market and balance international payments; the second function is to measure value, that is, international currency serves as valuation currency among commodity and financial transactions for private departments and also serves for authorities to confirm the par exchange rate so as to act as anchor currency to peg exchange rate; the third function is storage of value, that is, international currency is used for private departments to choose financial assets and also held as international reserve by authorities in the form of currency or high-liquidity assets. There is a progressive relationship between the realizations of 3 functions concerning international currency. Firstly, the internationalization of currency begins with the frequent usage among international transactions, especially the international trades; secondly, with the frequent usage and relatively stable currency value, non-resident private departments and official institutions come into use this currency as valuation currency; finally, because of the convenience of using this currency and stronger acceptability, non-resident hold this currency as reserve currency with the purpose of precautionary demand etc. In general, the function acting as medium of exchange is the fundamental function of international currency. The internationalization process of USD, Sterling, Deutsche Mark and Yen started with trade surplus, as shown in Table 1. Table 1: The Beginning of the Internationalization Concerning USD, Sterling, Deutsche Mark and Yen

Issuing Reserve The beginning of the internationalization concerning

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countries of currency reserve currency reserve currency From the outbreak of World War I in 1914 to the outbreak of World War II in 1939, domestic and foreign markets demands were greatly stimulated for American products. The USA achieved the transformation from the world's leading industrial power to the world's largest economy and US dollar gradually became a strong currency. From the end of World War II to the the USA USD mid-late 1950s, the USA established General Agreement on Tariffs and Trade (GATT), sharply reduced the tariff and eliminated trade barrier, and tackled discrimination among international trades in the aim of largely outputting American products so as to seize the international market.US dollar established its dominant status in the international currency system and finally turned into an international currency. At the mid-late 17th century, The UK undergone “financial revolution” and credit instruments, system of government bonds and bank networks came into being one after another. Meanwhile, British modern financial system took into initial shape, Bank of Scotland started to perform its functions as central bank. The following first industrial evolution contributed to the rapid The UK Pound development of British industries. The supply exceeds the demand concerning domestic product, so The UK pursued the free-trade policy and actively opened up foreign markets and gradually turned into the world's biggest exporter of industrial products. Furthermore, the first industrial evolution further promoted the development of financial industry in The UK. At the

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last half of 18th century, London grew to be the world's biggest financial centre. The bonds issued by British government enjoyed much popularity throughout the world. Thanks to the overseas trades, foreign investments and colonial activities, Sterling was continuously outputted and witnessed rapid development in internationalization process. Since 1950s, the former Federal Republic of Germany enjoyed faster growth in economy and trades and frequently obtained current account surplus which laid foundation for relaxing capital control. From the calculation of IMF, actual value of GDP of the former Federal Republic of Germany in 1950 was equivalent to 13.2% of the USA, which respectively rose to 20.8% and 22.2% in 1960 and 1970. The proportion of international trades of the former Federal Republic of Germany in global trades rose from under 7% in 1955 to 10% in 1965. As early as the first half of 1950s, Deutsche foreign trades of the former Federal Republic of Germany Mark Germany appeared surplus which reached Deutsche Mark 5.2 billion until 1960. With the settlement of the problem involving foreign debts, the continuous surplus of current account led to the growth of international reserves, and the former Federal Republic of Germany was capable of enabling Deutsche Mark to be exchangeable. Deutsche Mark’s status as international currency had been enhanced after 1970s. Thanks to the sustainable development in economy and trades, current account experienced surplus for many years. Foreign net debt of the former Federal Republic of Germany was only second to Japan from 1986. In

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addition, the improving on depth and extent of domestic financial market and stable domestic currency value of Deutsche Mark impelled the development of Deutsche Mark internationalization. Japanese international trades continued to grow and remained a higher level after the swift postwar economic recovery. From 1949 to 2004, Japanese foreign trades rose from US dollars 1.42 billion to US dollars 1019.7 billion, increasing by 718 times in 56 years, among which export trades and import trades respectively increased by 1108 times and 502 times, reaching US dollars 565 billion and US dollars 454.7 Japan Yen billion. Japanese growth rate of foreign trade was far higher than the growth level of world trades over the same term. From the usage in Japanese foreign trades, with the continuous growth of Japanese foreign trades, the proportion of Yen in Japanese foreign trades was continuously improved. Yen began to be used in national trades at 1960s and with the proportion of Yen as pricing currency kept increasing from 1970 to 1980, but it remained around 35% hereafter. Data sources: Gao Cailin (2008); Yu Yongzhen (2013); Wang Xin (2009); Yu Jiang (2008) Above-mentioned currency internationalization were achieved by using their comparative advantages to stimulate other countries’ demand for their domestic commodities and for their currencies. The increasing demands and accumulation of this currency improved the status of the currency in international financial market, leading the internationalization of domestic currency to extend other functions. II. Current situation: different conditions of trade balance concerning issuing countries of reserve currency To turn into reserve currency, it is expected to meet the needs of foreign residents for —15— domestic currency with the purpose of paying, storing value etc.. Furthermore, there should be sustained and steady output channels for currency. The output channels for currency fall into 3 types: the trade deficit of this country; capital outflow of this country or the increasing of foreign credit; non-reimbursable assistance to others. Trade deficit is the main output channels for currency, but recently, the trade balance of issuing countries of reserve currency is different. As the main international reserve currencies, the USA and The UK experienced perennial trade deficit, while Germany (EU) undergone perennial trade surplus and Japan switched from surplus into deficit, as shown in figure 4-7. Figure 4: Balance of Payment between U.S. Cargo and Service Trade in 1960-2014

Hundred Million US Dollars

Year

Data source: CEIC. Figure 5: Balance of Payment between British Cargo and Service Trade in 1955-2014

Million Pound

Year

Data source: CEIC. Figure 6: German Balance of Payment of EU Cargo Trade in 1950-2014

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Million Hundred Euro

Year

German trade Payment Balance of EU Cargo balance Trade Data source: CEIC.

Figure 7: Japanese Trade Balance in 1978-2014

Billion Yen

Year

Data source: CEIC. Section 2: Academic view of the Different Situations about Trade Balance of Reserve Currency Issuing Countries and the Impact Analysis I. Theory on trade balance of reserve currency issuing countries Since 1960s, with the declined status of US dollar hegemony, the development of Yen internationalization and the emerging Euro as regional cooperative currency, more and more western scholars began to pay attention to the currency internationalization. Most researches concentrated on the impact of internationalization on the economy of issuing countries. Meanwhile, there are explorations on the relationship between currency internationalization and trade balance, among which the most famous was the “Triffin Dilemma” carried out by Robert Triffin, an American economist. In 1960,

—17— in his book of the Crisis of Gold and U.S. Dollar – the Future of Free Exchange, Triffin put forward that the USA supplied international liquidity for other countries through chronic trade deficit, which was a paradox with the requirements of chronic trade surplus aiming to maintain international reputation of US dollar. The inner contradiction was called “Triffin Dilemma”. Despite that many scholars held that the internationalization of domestic currency was favorable to the development of international trades, opinions vary on whether the internationalization of domestic currency will bring up balance of payment deficit. The affirmative side supposed that international seigniorage was obtained on the basis of international payment deficit. Therefore, if the issuing country of international currency is to enjoy the returns on seigniorage, it is expected to keep its international payment deficit. When there occurred deficit in current accounts, the issuing country can gain the returns on seigniorage under current accounts. While capital accounts deficit occurred, the issuing country can gain the returns on seigniorage under capital accounts (Cohen, 1971). With the development of internationalization, the demands of foreign residents for assets of domestic currency will be strongly increased, which will contribute to the appreciation of domestic currency. Consequently, the issuers’ competitiveness of exports declined so as to influence the scale export trades (Frankel, 1991). The opposing side held that the issuing country of international currency can obtain financing for international payment deficit through issuing currency. The increasing issuance of currency depreciated domestic currency and then effectively stimulated exports (Aliber, 1964). The international usage of currency can improve the trading conditions of currency-issuing countries. That is, when a currency was widely used, the value of commodity purchased by measure value will rise, significantly improving the trading conditions of exporting country (Prakash, 2006). In conclusion, the direct influence of currency internationalization on trade balance presents to be positive and negative. There is no certain cause-effect relation between the status of reserve currency and balance of payment deficit. II. Impact analysis on trade balance of reserve currency issuing countries —18—

The international usage of one currency must satisfy two basic requirements. The first one is the confidence possessed by non-residents on value of currency, which relies on the stable internal value of currency, namely, low inflation. From the prospective of the function acting as medium of exchange, non-residents hold currency mainly to pay for international transactions. Only when the low inflation is ensured, the domestic purchasing power of currency can be guaranteed. According to the theory of , compared with the currency with high inflation, the currency with low inflation faces with appreciation pressure, so the low inflation also ensure the external purchasing power of international currency. The second is the degree of development and openness of this country’s financial market. Closing the financial market, for example, restrictions on currency exchange shall increase the costs of currency transactions. If the liquidity of currency is limited, the usage of international currency shall be hindered. Prosperous financial market possesses numerous financial instruments and sound secondary financial markets which help to decrease the transaction costs and improve the liquidity and profitability of currency. The opening of financial market and the booming of offshore financial business promote the international usage of currency. The countries with smaller economic scale or high degree of external dependence are more likely to suffer from “Triffin Dilemma” and their currencies are more difficult to turn into reserve currency. The reserve currency issuing country supplies international liquidity for other countries through chronic trade deficit, capital output, foreign aid and other methods. Generally speaking, trade deficit will sap the confidence possessed by non-residents on value of currency and thus put pressure on exchange rate. Although the confidence is influenced by exchange rate, it mainly depends on the changing of internal value of currency. Domestic price level in one country does not solely rely on import and export, but also lie on domestic consumption, investment, currency supply and other factors. When the countries with smaller economic scale or higher degree of external dependence output currency through trade deficit and capital outflow, it is difficult to guarantee the stability of domestic economy and finance. Therefore, those economies are more likely to face with —19—

“Triffin Dilemma”. While the countries with larger economic scale are more independent and therefore more tolerate to “Triffin Dilemma”. III. Quantitative analysis on trade balance of reserve currency issuing countries In order to study whether there exists necessary relation between IRC and trade balance, with the year-over-year changes of trade balance concerning the USA, EU, Japan, the UK in 1999-2014 as horizontal axis and the proportion changes of currency in official foreign exchange reserve in 1999-2014 as vertical axis, as shown in Figure 8, it is discovered that there is no obvious correlation between them, which proves the status of reserve currency shows no distinct influence on the trade balance. Figure 8: Relations between Trade Balance and Status of Reserve Currency

Note: horizontal axis is the year-over-year changes of trade balance; vertical axis is the proportion changes of contra currency in official foreign exchange reserve

Section Three: Brief Summary Medium of exchange is the fundamental function of international currency. Throughout the internationalization process of main reserve currencies in the global, all of them initially started with trade surplus. Issuing countries stimulate other countries’ demand for domestic commodities and then increase foreign residents’ demands for domestic currency through the comparative advantages. The increasing demands and accumulation of one currency improve the status of the currency in international financial market, resulting in the internationalization of domestic

—20— currency. “Current account deficit, capital account surplus” is an approach to output domestic currency. When the internationalization of domestic currency enters into a higher level of being reserve currency, the assets of domestic currency held by non-residents will increase. Therefore, the internationalization of domestic currency will boost rather than reduce pressure of capital inflow. Before the outbreak of the international financial crisis in 2008, the USA provided world with US dollars through purchasing other countries’ commodity. Meanwhile, the USA issued financial assets such as US dollars bonds to realize capital inflow. Therefore, the USA achieved the balance of international payment in a manner of “Current account deficit, capital account surplus”. The double circulation system in international economy was once thought to be “The New Bretton Woods System”. Some economists consider “The New Bretton Woods System” can solve Triffin Dilemma; moreover, it is sustainable and living. The countries with smaller economic scale or higher degree of external dependence are more likely to be subject to “Triffin Dilemma” and would face with more difficulties to turn into reserve currency. If currency serves as main international reserve currency like US dollars, the structure of international balance of payment of “Current account deficit, capital account surplus” may be one choice. However, the data analysis from both the different directions trade balance and the non-correlation between trade balance and status of reserve currency fail to prove the uniqueness of the above choice. It is worth noting that it is difficult for the countries with smaller economic scale to guarantee the stability of domestic economy and finance. For those economies, they output currency through trade deficit and capital outflow during the internationalization of domestic currency, while more independent countries with larger economic scale are more tolerate to “Triffin Dilemma”. The balance of payment and the internationalization of domestic currency are two completely different issues, so it is improper to simply put the blame on the internationalization of domestic currency if international balance of payment is unbalanced. The balance of payment is a reflection of internal balance in external departments. For instance, current account surplus results from more savings than —21— investment with insufficient effective domestic demand; capital account surplus may result from underdeveloped financial markets and excessive dependent on foreign capital. There is no inevitable connection between the trade balances and the currency used in pricing and settlement during foreign trades. Just as the following cases, the domestic currencies being main international currencies, Japan experiences long-term current account surplus while the USA undergoes long-term current account deficit; with Euro as the common currency in Eurozone, Germany experiences long-term current account surplus while Spain, Portugal, Italy, Greece, Ireland and other countries undergo long-term current account deficit. Therefore, the strategy of using the internationalization of domestic currency to solve unbalanced international balance of payment and the accumulation of foreign currency reserve is counterproductive and futile. Conversely, the practice of simply blaming the the internationalization of domestic currency for unbalanced international balance of payment is ineffective and meaningless.

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Chapter Three: Reserve Currency and External Financing Ability Section One: the overall Performance of Overseas Borrowing Currency is with purchase power to obtain social wealth. It is debt currency in nature under the sovereign credit system and is the liability of currency authorities to all holders of currency. As international circulating currency, reserve currency is the liability to all holders of currency. Liability is the typical characteristic of modern financial operation which not only reflect in individual micro-level such as commercial bank but also in macro-level and global vision such as international reserve currency. In addition, liabilities-bearing ability is a vital component of the benefits of reserve currency. The main developed economies and other issuing countries of reserve currency borrow overseas with domestic currency, with no risk of currency mismatch and no restriction of international liquidity. Therefore, they enjoy the obvious unilateral returns. However, the accumulation of reserve assets in developing countries is achieved through offering cheap funds to the issuing countries of reserve currency whcich means holders undertake the investment risk while supplying funds. Since the assets are priced in the form of foreign currency, besides the disadavantage of rather low investment returns (low interest rates of United States government bond and negative rates of national debts in Euro zone), once the reserve currency is depreciated, foreign exchange reserve of holders will suffer from significant financial losses in denomination value. “Original sin of small countries” put forward by Mackinnon, an American economist, profoundly reveals the only helplessness of using non domestic currency as reserve currency. From this perspective, reserve currency can also bring returns from overseas borrowing. I. The borrowing performance of reserve currency from net international investment position (NIIP) For reserve currencies of different levels, the capacity and performance of overseas borrowing differ greatly. International investment position provides us with a reliable instrument to inspect the financial assets and liabilities stock assumed by one country or region in specific time-point to other countries or regions in the world. The —23— international investment position can measure the condition of foreign assets or external liability concerning the reserve currency issuing countries. The US dollar has powerful capacity to borrow overseas continuously. By analyzing the data of the USA international investment position, it can be discovered that the USA international investment remained net negative position since 1986. Moreover, net negative position was continuously enlarged, surging from US dollars 27.8 billion in 1986 to US dollars 1.8 trillion in 2007. After the subprime mortgage crisis, net negative position was further enlarged and it reached to US dollars 4.6 trillion in 2013. Therefore, development process of the USA overseas borrowing can be generally understood from those data.

Figure 9: the USA Net International Investment Position

1.0

0.0

(1.0)

(2.0)

(3.0)

(4.0) 美国（万亿美元）THE USA (Trillion US (5.0)

Dollars)

年 年 年 年 年 年 年 年 年 年 年 年 年 年 年 年 年 年 年

1980 1986 1988 1992 1994 1998 2000 2004 2006 2010 2012 1978 1982 1984 1990 1996 2002 2008 1976 Data source: Wind. As one of the world largest international reserve currencies, the ability of Euro to borrow overseas is strong. The international investment in Eurozone kept negative position since the establishment of Eurozone. The negative position in Eurozone was continuously enlarged around the eruption of American subprime mortgage crisis in 2008, from Euros 0.4 trillion at the start of this century to Euros 1.5 trillion in 2008. This indicated the improved overall level of external liabilities in Eurozone. During

—24— the short term from the outbreak of subprime mortgage crisis to the outbreak of European debt crisis, international investment negative position in Eurozone was sharply enlarged to Euros 2.4 trillion. The overall liabilities level in Eurozone kept shrinking after the second quarter of 2009, which shrank to Euros 1.5 trillion in 2013. The scale is far from the USD net international investment negative position of US dollars 4.6 trillion the same term. Figure 10: Net International Investment Position in Eurozone

0.0

(0.5)

(1.0)

(1.5)

(2.0) 欧元区（万亿欧元）Eurozone (Trillion Euros)

(2.5)

Data sources: Wind. Yen is steadily in the third or fourth position in the international reserve currency system for a long time, however, compared with US dollar and Euro, the performance of oversea borrowing for Yen is not impressive. Japan does not appear as a large debtor, instead, it always stands as the biggest creditor for more than twenty years in the international financial market. NIIP always keeps greatly positive and the scale extends from JPY 133 trillion in 2000 to JPY 325 trillion in 2013. II. Borrowing performance of the reserve currency from the view of the bond outstandingk in the international bond market From the view of the international bond market, it also shows differences among the borrowing power of the reserve currency in different levels. The comparison of stock scales for US dollar bond, Euro bond, and Yen bond in the international bond market can reflect the different levels about the borrowing ability

—25— of the three reserve currencies. In the international bond market with the stock up to the USA 22 trillion (by the end of 2013), the stock of US dollar bond is 7.8 trillion, Euro stock 9.9 trillion and Yen stock about 480 billion. Over the past twenty years, the stock of US dollar bond is always kept accounting for 30%-50%, Euro stock 40%-50%, and Yen bond stock rose temporarily in the early 90s and then dropped continuously from 17% to 2% in 2013. Figure 11: Stock in International Market

25,000

Total issues 20,000 Euro

US dollar 15,000 Yen

十亿美元 10,000

USD One billion One USD 5,000

0

1993 1995 1997 1999 2001 2003 2005 2006 2008 2010 2012 1996 1998 2000 2002 2004 2007 2009 2011 2013 1994

Data sources: BIS.

Section Two: Structural Analysis of Borrowing Oversea in Reserve Currency I. Concrete analysis of US dollar external liabilities i. Quantity and Price analysis of US dollar external liabilities 1. From the view of “quantity”: asymmetry between US dollar external liabilities and foreign investment There are big differences between the foreign investment and US dollar borrowing oversea, i.e., it is obviously asymmetrical between the USA foreign investment and investment in the USA from other countries. The USA foreign investment mainly refers to securities investment and direct investment with long term and high yeild. From analysis of the cross-section data of the USA international investment in 2013, it shows that overseas assets of the USA mainly include foreign investment from private —26— sectors accounting for 85% of the USA overseas assets. The foreign securities investment of private sectors especially the stocks investment accounts for 30% of the USA overseas assets, and its direct investment for 24%, while the investment in the USA from other countries mainly refers to the highly liquid bond investment. In the investment in the USA from foreign private departments, 50% is for US bonds, and the investment from the public departments is even more concentrated with 76% for United States government bond. The above conclusion can also be obtained by the analysis of the USA international investment data in other years, which shows the unique national capital structure with “short-term borrowing plus long-term investment” Figure 12: Overseas Assets of the USA

2% 公共部门资产Assets of private departments 13% 私人部门资产：直接Assets of private departments: 24% 投资direct investment

21% Assets私人部门资产：证券 of private departments: bond投资 investment Assets私人部门资产：其他 of private departments: other债权 creditor's rights Others其他 40%

Data sources: Wind. (Note: 2003 annual data)

Figure 13: Assets in the USA of Foreign Countries

18% 23% United美国政府债券 States government bonds 其他债券及债权 12% Other bonds and creditor’s rights Direct直接投资 investment Others其他

47%

Data sources: Wind. (Note: 2003 annual data) —27—

2. From the view of “price”: there are visible differences between the returns of foreign investment and costs of the external liabilities in the USA The cost of the USA external liabilities is far less than the benefit of the USA foreign investment. From the data in 2001-2006, the return rate of the USA oversea assets matained at above 4%, but assets in the USA of the foreign countries only 3%, and the difference is from “valuation effects”. The difference is also great on the investment scale. Taking the direct investment for an example, the scale of the overseas direct investment from the USA is USD 6.3 trillion which is 30% more than the direct investment in the USA from foreign countries with USD 4.9 trillion. The superposition of differences of the scale and returns rate further enlarges “valuation effects”. Therefore, even though the USA is a net debtor country, it also can obtain the positive benefits from borrowing overseas. The uniqueness of the national capital structure and assets valuation in the USA forms the USA “exorbitant privileges”. With the unique advantage of the USA dollar being international reserve currency and transaction currency to borrow overseas, the USA avoided the currency mismatch risk and reduced the scale of external liabilities to achieve “American default” by “valuation effects”; the capital structure led by debt financing and the investment structure led by overseas direct investment realize the reasonable match of high returns investment and low costs liabilities to gain net returns. As a result, it plays a positive role in improving sustainability of the USA asset-liability structure to decrease relevant risks and maintain financing ability of the USA. ii. US dollar overseas borrowing from the view of United States government bond US government bond with the most liquidity and security is the important carrier of US dollar borrowing overseas and also a key element in US dollar debt system. For the raising amount, the annual circulation of United States government bond, from USD 600 billion of the annual value in the middle 90s of the past century to more than USD 1 trillion in 2008, and further up to above USD 2 trillion since the subprime mortgage crisis (2009-2013), accounting for one third of the total annual circulation in the USA bond market at present. For the stock, the annual stock of United States —28— government bond, from USD 3.4 trillion in the middle 1990s of the past century up to USD 5.8 trillion in 2008 and obvious enlarged to above USD 11 trillion in 2013 after the subprime mortgage crisis, also accounting for thirty percent of the total stock in the USA bond market at present The holder-structure and scale changes of United States government bond may provide a view of ability to borrow overseas in US dollar. The data from U.S. Department of the Treasury are showing that United States government bond of foreign investors in 2007 was USD 2.2 trillion, accounting for 22.5% of various US equity bonds held by foreigners And USD 5.6 trillion up to 38.8% until 2013. Forty percent of assets of the USA of external investors are United States government bond. The investor structure of United States government bond also means that half stock of United States government bond with USD 11 trillion in 2013 was held by external investors. In another words, half of the borrowing of U.S. Treasury Department is held by foreign countries. Figure 14: Proportion of United States Government Bond and US Bond Held by Foreign Investors

60%

50%

40%

United States 30% 国债 government bond 各类债券 20% Various bonds

10%

0%

Data sources: Wind. The increment change also shows the unique status of overseas borrowing in United States government bond market. The assets increment of foreign countries in US public sectors was 283.744 billion US dollar in 2013, 83% of which may reflect the

—29— increasing amount of United States government bond. During the years of 2000-2013, 71% of assets increment of foreign countries in US public department was from United States government bond. Broadening liabilities forms from United States government bond to all kinds of bonds, the ability to borrow overseas for United States would stand out similarly. Various liabilities of the USA to foreign official institutions was up to USD 58.8 trillion in 2013, increased by more than one time of USD 2.8 trillion in 2006, while above 60% of liabilities was United States government bond with high liquidity. II. Structural analysis of Euro overseas borrowing The ability to borrow overseas in Euro is not weak. The proportion of Eurozone government debt held by the non-residents in GDP increased significantly from 16% in 1995 up to 45% in 2013 in absolute amount. The relative proportion went up from 22% in 1995 up to 53% in 2009 and decreased slightly after European debt crisis, which also shoed that the ability to borrow overseas for Eurozone countries had been improved greatly in the past twenty years. Figure 15: Proportion of Eurozone Government Debt Held by the Non-residents

60 非居民持有的政府债务（Government debt held by the non-resident% ofs GDP (% of） GDP) 50 非居民持有比例（Proportion held by the non%-resident） s (%)

40

30

20

10

0

Data sources: ECB. However, overseas borrowing for Eurozone countries does not mean to be held by the countries outside the Eurozone. Eurozone is just a currency union but not a fiscal or political union. In Eurozone, the currency is consolidated while debt of each country is independent. To a great extent, Eurozone debt displays characteristics of internalization. For instance, most of Greek debt is held by other countries inside —30—

Eurozone, especially commercial banks from Germany and France holding creditor's rights with large share. With the data from Business Week, banks from Germany hold about 250 billion of national debts from countries caught in the debt dilemmas in Eurozone. The differences of holdings in the government debt by non-residents are great in Eurozone countries. For example, half of the government debt, in these countries such as Germany, France and so on, is held by non-residents, whiles, in Italy, Spain, etc, the government debt is possessed mostly by residents. Figure 16: The Holder-structure of the Government Debt from Eurozone Countries

Eurostat。Diagram sources: Eurostat. III. the ability to borrow overseas in Yen is not impressive Yen as the reserve currency is in steady status, which does not match completely with the performance to borrow overseas. The data from Ministry of Finance of Japan are showing that, by the end of 2013, total amount of net creditor's rights from Japan overseas assets was JPY 325 trillion, 80% (262 JPY trillion) of which was the net creditor's rights from private sectors and only 20% (JPY 63 trillion) from public sectors. So far, Japan has been continuously the biggest creditor country for 23 years. In the corresponding period, total amount of Japan overseas assets is JPY 797 trillion, or about USD 7.8 trillion, which means that JPY 472 trillion of borrowing overseas is just equal to 60% of overseas assets. In overseas debts of Japan, about half is in the field of securities investment, and a quarter in the credit and loan. The performance of Yen as one of the international currency to borrow overseas is not —31—

impressive. Figure 17: Investments Abroad and External Liabilities of Japan

900 I对外投资nvestments abroad 800 Exterior对外负债 liabilities 700 Overseas对外净债权 net creditor's rights

600

500

400

万亿日元

trillion

JPY trillion JPY 300

200

100

0

1972 1974 1982 1984 1992 1994 2002 2004 2012 1976 1978 1980 1986 1988 1990 1996 1998 2000 2006 2008 2010

Data sources: Ministry of Finance Japan.

Section Three: Reasons for Reserve Currency with different external financing performance I. The circulation system of US dollar external debts from the view of history The ability of US to borrow overseas is beyond other reserve currencies. US dollar debt financing with short-term and low returns may support the foreign direct investment with long-term and high returns outside the USA. The dependence of US dollar reserve currency by public departments and private departments in each country is not yet replacable (Eswar, 2014). Except realistic perspective of the distinct capital structure of national debts, the circulation system of US dollar debt is formed historically to help understand the unique of ability to borrow overseas for US dollar reserve currency. After Bretton Woods system collapsed, United States government bond became a kind of investment generally accepted by international society and carrier of repatriation for overseas as a substitution of gold. In fact, US dollar assets in foreign central banks exceeded the gold reserve of U.S. Treasury Department in the mid-late 60s of the past century (Fu Zheng, 2013). The USA forms the virtual US dollar debt standard after the gold standard. From the path of historical evolution, US dollar borrowing overseas

—32— experienced two important stages, petroleum exporting countries and export-depended countries in East Asia separately brought into the circulation system of US dollar debt which is significant expressions for US dollar to consolidate its status as the reserve currency. Petroleum exporting countries are the main object for US dollar overseas borrowing, and the process is called recycling of petrodollars. Generally, with the dominance of global politics and economics, the USA made US dollar become the most important international reserve and settlement currency after the war. The international petroleum is priced in US dollar in petroleum trade domain, and it occupies the monopoly status in the settlement currency of petroleum trading, with almost 100% of international petroleum transaction in US dollar. The current account, for petroleum exporting countries in the gulf countries, always is in surpluses. While their native financial market is underdeveloped, the trading surpluses is used for investments abroad in the form of sovereign wealth fund. However, the USA has the powerful economic strength and developed capital market, so the USA market provides highly developed and rapid liquidity investment in petrodollars for energy exporting countries, which makes the petrodollars flow back to the national debt and deposit to supplement the trade and financial deficit and to support the economic development. In the end, most portion of the trade surplus in petroleum exporting countries forms the external liabilities by the USA government to these countries, which makes these countries become part of the USA debt circulation. Most petroleum importing countries need to use the trade surplus in exchange of US dollar and exchange reserves for external payments, so in fact they also cannot escape from the USA debt circulation. However, the USA can use the banknote printing machine to produce massive US dollars and purchase cheap goods and services in the world. Following the economic growth of East Asia and emerging economies especially fast growing export in these regions, the USA debt circulation also include these regions. On the one hand, the USA procures large numbers of consumer goods from Asian country so that it causes US dollar exchange in some countries such as China and Japan to increase rapidly, and at the same time, the US trade deficits are extended —33— continuously but called “deficits without tears”. On the other hand, the USA issues a lot of bonds and these countries such as China and Japan purchase large sum of US dollar assets, which causes US dollar flows back to the USA to supplement the gap of its trade deficit. Such circulation system of US dollar makes the USA not to worry about the pressure from the international payment deficit to domestic economy, and subscription of United States government bond by foreign countries provides conditions for the expansionary currency and fiscal policy. At the same time of maintaining the existing recycling of petrodollars, emerging industrial countries and export-oriented countries in East Asia further intensify the mode of the USA debt circulation worldwide so as to reinforce and enlarge the ability of US dollar reserve currency to borrow overseas. The cost of US dollar external liabilities is relatively controllable. Most external liabilities in the USA is priced in US dollar to avoid the risk of currency mismatch. As the unique standard currency, US dollar enjoys the hegemonic status in international currency system, possessing abilities of near-limitless financing and creating credit, and adjusting the exchange rate to change freely the cost of external liabilities. Contingency measures of creditor country are limited actually in current and a long period in future for the closely interdependent relationships between creditor countries and the USA in economy and spillover effect caused by adjusting macro-policy in the USA. Moreover, the advantage position in IFC and superiority in establishment of the international finance rules and standards are helpful to defuse the risk of external debt. The USA possesses the ability to transfer liability risk by market and policy forces. In addition, returns rate of investments abroad is always higher than the interest rate of external liabilities which also is important economic explanation to support US dollar external liabilities. Pessimistic expectation was made by many studies on sustainability of the USA external liabilities previously, but it is not proved by reality. II. The Internal Imbalance in Eurozone Restricts the Ability of Euro Reserve Currency to Borrowing Overseas The structural imbalance restricts the ability of Euro reserve currency to borrowing —34— overseas. The proportion of overall government debt in GDP in Eurozone countries was 91% in 2013, which was not the highest in developed countries for in Japan it exceeded 200%. But the government debt of Eurozone varies greatly among countries in this area. The portion of government debts in GDP in the core countries such as Germany and France is almost below 80%, while in the relatively marginal countries such as Greek, Portugal, Italy, Ireland, and so on above 123%. Defects of mechanism in Eurozone make costs of debts in Eurozone countries to diverge from national credit ratings for a long period. Eurozone countries deliver currency sovereignty to European central banks, but retain the fiscal sovereignty separately. Credit rating, issuance amount, and mobility are lower when each member country issues national debt separately than that when these countries unify to issue the national debt, so when the national debt of the country (such as Greek) with poor financial situation goes wrong which may cause the systematic crisis for whole Eurozone. At the beginning of establishment of Eurozone, the principle of non-common sharing which equals non-salvation provision, was written into Treaties of the European Union which specified that member countries in this area must be separately responsible for the issuing liabilities and forbid strictly EU or any member countries to undertake the liabilities issued by another member country. Non-salvation provision is designed to emphasize that each member country must bear its debts separately by setting rules in advance, urge that the markets make a difference among the sovereign debts of each member country, and give different pricings in accordance with various risk features. The ultimate purpose of the design is to avoid the moral hazard and prompt member countries to abide by financial discipline (Yu Yongding, 2010). However, in practice, the markets failed to make a valid distinction and give different pricings. With common currency and unified benchmark interest rate, the currency mechanism in Eurozone means that member countries can use the unified credit rating to borrow Euros. The deficit incurred in intra-regional trade of peripheral countries, without needs of support from foreign exchange reserve, can obtain directly convenience of Euro financing by the mechanism arrangement of Target II in Eurozone and make public and private debt financing in this country by the interest —35— rates in these countries with high credit. Under the common currency mechanism in Eurozone, the cost of borrowing overseas will be astringed to the core countries such as Germany and so on for a long time. The studies show that, since the establishment of Eurozone in 1999, the rate of the sovereign debt financing has generated obvious convergence in each member country. For example, 10-year Treasury yield in Germany and Greek is 5.14% and 6.30% respectively with only 1.2 percent of interest margin in 1999, and almost the same in 2003. A rapid expansion appeared when Greek debt crisis broke out, and the gap was enlarged to a stunning 21 percent in 2012. The returns and costs of marginalized countries such as Greek in Currency Union reflect the conflict between free-rider and self-restriction of these countries. The low financing cost produced the trend of the long term debt at a large scale losing market constraints in these countries (Flessbeck, 2011), resulting in European sovereign debt crisis. Euro as the second largest reserve currency in the world does not help them a lot, therefore, these countries in southern Europe crisis have to make painful fiscal consolidation and structural adjustment, and bring the punitive rate rather than the zero rate into market financing. Fgure 18: Comparison of 10-year Treasury Yield in Germany and Greek

% 25 25

20 20

15 15 I利差（右轴）nterest margin (right axle) Germany德国 10 10 Greek希腊

5 5

0 0

01 04 07 10 13 14 99 00 02 03 05 06 08 09 11 12

------

Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Jan Data sources: CEIC. There is huge difference between economic level and financial situation in Euro countries, thus it is also very different for sovereign credit rating, the returns rate and the risk level of the national debt in each country. The above case shows that it is difficult for Eurozone countries to form the national debt with high credit rating and —36— high liquidity equal to United States government bond, etc. The national debt is a basic form of value reserve, and Euro as a reserve currency falls down in the competition with US dollar. European debt crisis may unlikely cause Euro to collapse, but it is inevitable for the status of Euro currency reserve to suffer the negative impact. In the global reserve currency system, the stock of Euro reserve currency was historically up to 46% of US reserve currency in the third quarter of 2009, however, the proportion obviously decreased after European debt crisis, and dropped by 10 percent in the third quarter of 2014.

III. Yen’s reserve currency to borrow has the internal characteristic Japan once promoted the internationalization process of domestic currency positively, and Yen gradually ascends the position of reserve currency and stays in the top five stably. But, Yen does not show the ability as US dollar obtaining cheap financing ability on a global scale. The important reason of Yen’s weak ability to borrow oversea is the relative closed and conservative financial markets. The long-term low profit policy makes its domestic financial markets have limited attractions. Financial markets in Japan have many limitations for foreign investors, and it is not convenient as European and American markets. At the same time, Yen’s overseas stock is not high, and external debt in Japan is low. Japanese financial markets especially national bond markets show high internalization. Government debt balance of Japan breaks through 1,000 trillion Yen at the end of June 2013, but the debt structure is different from that of European crisis countries. A lot of debts are digested in domestic and self-sustained rate is high. Most of the national debts in Japan are held by domestic organizations and individuals, and it is not easy to be influenced by external confidence fluctuation. The saving propensity and level of Japanese families is at a high level, which is above 10% in most of years and compared with the USA, it is more than doubled. At the same time, deposit as the safe asset takes up most of in Japanese family assets and the proportion of risky financial assets is small. Though the national bond scale directly held by Japanese families is low, financial organizations in Japan transform huge

—37— household deposits into financing source of government bonds. According to the disclosure of central bank of Japan, government bonds scales held by all kinds of financial organizations in Japan accounts for 30% in its total assets and are higher than the proportions of the USA and Europe. Seen from the international comparisons, the domestic holding rate of Japanese governmental bonds is apparently higher than European and American countries, and the proportion of Japanese government bonds held by foreign investors is under 10% (He Fan, Huang Yijie, 2012). Typical characteristic of export-oriented economy makes Yen lack the need to borrow oversea. Japan keeps strong export and continuously increases the investments in overseas, so the trade and investment returns of Japan is surplus, and keeps the huge current accounts surplus; this leads to Yen and Yen assets in short supply beyond the borders. In 35 years from 1980 to 2014, Japanese current account maintains 30 years trade surplus, the proportion of GDP maintains at around 2%, and trade deficit appears in only three or four years. And this becomes the economic base of main creditor country. It is mixed blessing that due to the weaker ability of external financing, the internalization of debts protected Japan’s financial markets from the panic market that debt crisis countries of southern Europe faced. So, the performance, function and effect of reserve currencies in overseas borrowing are different in different countries and areas owing to different conditions. IV. The risk and prospect of reserve currency to borrow overseas The issuing country of reserve currency can use domestic currency to borrow overseas, and it does not have currency mismatch risk and international solvency constraints, making it avoid the effect of “original sin” that emerging markets usually encounter. But in fact, reserve currency to borrow overseas faces with a series of risks and constraints. Confidence is the immediate cause of the breakdown of Bretton Woods System and the biggest risk of reserve currency to borrow overseas. The external liabilities of the USA accumulate in the long term, and when to a certain degree, once non-residents holding US dollar reserve throw doubts upon debt-paying ability and it may trigger —38— the flight of dollar. The U.S. government debt accumulated at overseas is exceeding the continuously diminishing fiscal capacity (Pan Yingli, 2014). Continuous current account deficit leads to the rising of the proportion of the net foreign debt balance of the USA/GDP. When this specific value reaches a certain level, non-resident investors will stop buying the USA assets and demand higher risk premium. Zhang Yuyan and Zhang Jingchun (2008) think that issuing countries of reserve currency need to create the financial products of high returns to attract capital inflow, including high-risk financial derivatives and assets securitization products; in the process of creating financial products, it increases the “thickness” (bubble) of currency markets of issuing countries, and once occurring crisis, it leads to the breakage of debt chain and losing confidence and this even triggers large areas of financial crisis. Currency substitution is another risk for reserve currency to borrow oversea. If other sovereign currency can perform its responsibility as international currency, the government of each country may reconfigure the currency of reserve assets and weaken the borrowing power of certain reserve currency. Seeing from the comparison of NIIP, at the turn of the century, emerging Euro to borrow overseas shows continuous power, but US dollar to borrow overseas apparently slows down from 2000 to 2007 and it even retrogresses in part of the year. Though the above-mentioned risk factors exist on theoretical and realistic level, the prospect of main reserve currency to borrow overseas is still confirmative in short term and dollar-based international currency system still operate over a long period. First, safe-haven properties of US dollars decide that during the financial crisis, it is even more popular. During the crisis, though the USA exports a large number of US dollar liquidity, but owing to the financial turbulence triggered by crisis, monetary authorities of each countries especially emerging market countries sharply increase foreign exchange reserves of US dollars. After Eurozone and Japan launch quantitative easing monetary policy, the USA assets have safe-haven properties because it has the advantage on liquidity and the absolutely advantageous reserve status, so it is popular during the recession; next, US economy is still the bellwether of the global economy. When global economy begins to revive, the USA becomes the —39— chasing object for investors because of the strong revival of its economy. At present, Federal Reserve has announced the withdrawal of quantitative easing and raising interest rates is on the meeting agenda. Eurozone caught in deflation crisis and Japan suffering from consumption tax has a more optimistic prospect; finally, though international society dissatisfies the dollar-based international currency system, there are no other currencies or physical assets replacing the status of US dollar. As the spreading and deepening of this crisis, major world currencies of Euro, Pound, Canadian Dollar, Australian Dollar, etc. have a sharp depreciation against US dollar. RMB to US dollar exchange rate keeps the steady rising trend in Asian financial crisis, but RMB are not with absolute conversions and internationalization, so it cannot replace US dollars. After crisis, gold price booms and continues to play a role of traditional safe-haven assets. But gold is a kind of commodity, and it does not have much value in use. And it cannot be eaten and used, so in a sense, it is not economic as petroleum. Based on confidence, gold can be unity equivalent. But gold supply cannot keep pace with economic development; deflation is with high economic growth during gold standard period and gold standard cannot adapt to the needs of economic development of contemporary world that fictitious economy is more and more dominant, so that replacing US dollars with gold cannot be realized (Guan Tao, 2009). In conclusion, other currencies cannot replace US dollars to perform its responsibility as international currency, and the circulation system of US dollar debts still continues. There is no qualitative break at this stage, and it does not mean that there is no long-term accumulation of quantitative change. The relative decline of status of US dollar reserve currency and the trend of international reserve currency diversification from Jamaica System will continue to evolve.

Section Five: Brief Summary The difference of ability of reserve currency to borrow overseas is larger than the difference of the order of status of reserve currency. US forms special national debt capital structure depending on its leading status in international currency system, and —40— as the largest net debtors in the world and under the condition of the constantly increased external debts, US dollar is still capable to constantly and further expand the debt capacity. The strength to borrow overseas of other reserve currencies cannot achieve the degree of US dollars. Euro to borrow overseas as a whole is not weak, and even exceeds US dollars in the index of stock of bonds; but its own imbalance and mechanism defects restrict the development of Euro reserve currency to borrow overseas. Yen is a constant net debtor in borrowing overseas because of its own economic endowment and financial investment structure. Though reserve currency has different levels of ability to borrow overseas, it is not without cost. As the external risks of reserve currency are lower, it easily leads to domestic risk negligence and maintaining currency confidence is a bigger problem in a long time.

—41—

Chapter Four: Reserve Currency and Monetary Policy Autonomy Section One: Japan and Germany adopt Non Internationalization Strategy in early stage for the sake of Monetary Policy Autonomy Worrying that internalization of domestic currency may bring appreciation pressure of exchange rate and interfere with monetary policy, Germany and Japan rejected the international usage of domestic currency in 1960s and 1970s (Yuan Dong, 2015). In the mid of 1970s, central bank of Japan tried to prevent the international usage of Yen, and Japan mainly worried that large holding of Yen assets by non-resident would lower the control of Japan’s currency authority for currency supply and increase the fluctuation of exchange rate (Tavlas, Ozeki, 1992). Since 1980s, the USA pressured Yen internationalization so as to force Yen appreciation to alleviate trade imbalance of the USA and Japan and Japanese government began to think that with the raised position of Japanese economy in the world, Japan hadthe responsibility to play a role in international currency system. On this background, Yen internationalization can change from negative to positive. That Japanese government promotes Yen internationalization and financial liberalization to present basic features of relaxing capital control first and then domestic financial liberalization further intensifies the pressure of Yen appreciation. In particular, some policies and measures (for example, JOM) cannot promote the Yen’s wide cross border and international usage of Yen in essence, on the contrary, it is convenient for capitals to flow into the stock and real estate markets, and it boosts the bubble of Japanese economy (Fukumoto Wisdom, 2014). Even until Japan stopped the intervention in foreign exchange markets in 2005, Japan stopped the accumulation of foreign exchange reserve. In the late of 1960s and early of 1980s, Deutsche Bank tried to restrict the international usage of Deutsche Mark and worried that large capital flow could intervene the stability of domestic currency (Tavlas, 1991；Thimann, 2007). The measure taken by Deutsche Bank is to control capital inflow, for example, control on the issuance of valuation bill of Deutsche Mark in overseas bond markets. One view is that the non internationalization strategy of German and Japanese —42—

authorities explains that from 1960s to 1980s, the importance of Germany and Japan is raised in world economy, but it does not influence international reserve currency status of US dollars (Eichengreen, 2005). As the worry of monetary policy autonomy, some small open economies such as Singapore and China Taiwan still restrict non-resident to hold domestic currency.

Section Two: The Theory and Impact Analysis on Monetary Policy Autonomy of Issuing Countries of Reserve Currency I. The general theory on monetary policy autonomy of issuing countries of reserve currency Monetary policy autonomy means that in the process of country’s economy from closure to open, a country decides domestic interest rate and inflation level not being adjusted passively with the influence of other economy interest rates, price level changes and cross-border capital flows. Whether internationalization of currency influences monetary policy, some foreign scholars study on it from different views. Aliber (1964) and Bergsten (1975) think that internationalization of US dollar weakens the ability to perform independent monetary policy and utilize currency depreciation policy. Tavlas (1997) thinks that under pegged exchange rate system, the internationalization of currency may destroy central banks’ ability to control base currency owing to the change of preference of non-resident holders; under floating exchange rate system, internationalization of currency can lead to sharp fluctuation of exchange rate and influence the effectiveness of domestic monetary policy; whatever pegged exchange rate system or floating exchange rate system, the liquidity of reserve currency is decided by preference of non-resident holders to a great extent so as to weaken policy control ability of issuing country of reserve currency. And other scholars think that interest margin of domestic and foreign currency can trigger currency substitution and lead to ineffectiveness of monetary policy. Domestic documents study on the influence of internationalization on monetary policy. Kuang Keke (2011) thinks that internationalization of currency makes currency authorities difficult to monitor and manage currency stock, weakens —43— the leverage of interest rate, and to some extent, and triggers the ineffectiveness of exchange rate adjustment, so as to weaken monetary policy autonomy. In addition, the development of offshore market makes adjustment difficulty increase. Liu Lizhen (2005) points out that after internationalization of currency, interest rate effect of a country’s monetary policy can be damaged and interest rate transmission mechanism cannot even work. Most of the domestic and foreign documents think that internationalization of a country’s currency can impact the domestic monetary policy autonomy. II. The beneficial effect of internationalization of currency on monetary policy autonomy of issuing countries of reserve currency The internationalization of domestic currency can decrease the reliance on foreign exchange reserve. The constant expansion of a country’s scale of foreign exchange reserve may lead to inflation effect under the pegged exchange rate system. In order to keep stable price environment, it needs to adopt monetary sterilization policy. But monetary sterilization policy is effective in a short time; it can trigger the decrease of domestic interest rate in long run. In recent years, emerging market countries store more foreign exchange reserves, in order to deal with the quantitative easing policy of developed countries and drastic fluctuation of exchange rate among main currencies. Zhang Shuguang and Zhang Bin (2007) think that the constant accumulation of foreign exchange reserve makes the balance sheet of central bank encounter severe currency mismatch, impacts currency supply and financial markets, and finally may leads to long-term structural distortion。 If domestic currency acts as reserve currency, issuing country does not have the hard constraint on international liquidity. Theoretically, it does not need to accumulate foreign exchange reserve and it can isolate the influence of economic external balance on domestic monetary policy. III The adverse effect of internationalization of currency on monetary policy autonomy of issuing countries of reserve currency In 1960s, Mondale and Flaming put forward famous Mondale-Flaming model. Through the expansion of IS-LM model to open economy system, model —44— demonstrates that fixed exchange rate system of small countries is incompatible with dependent monetary policy under open economy. After Southeast Asian financial crisis, Krugman clearly points out that a country cannot achieve three major financial targets of monetary policy autonomy, exchange rate stability, and free movement of capital at the same time, but two of them can be chosen at the same time. And this theory is called “The Impossible Trinity”. Many scholars discuss the relationship of capital exchangeable degree, exchange-rate system, and monetary policy monotony with “The Impossible Trinity” and put forward improvement suggestions for model. Yi Gang (2001) expands the theoretical framework of The Impossible Trinity, and puts forward formula X+Y+M=2. X, Y, and M respectively represent exchange rate, monetary policy and capital flow state. Every variable has many solutions from 0 to 1, and that is, they can form multiple states through the shift. As the highest level of internalization of currency, reserve currency regards the more freedom of cross-border capital flow as its requirement. According to “The Impossible Trinity”, on one hand, it intensifies the fluctuation of exchange rate of reserve currency; on the other hand, it weakens the autonomy of monetary policy of issuing country of reserve country. For the latter, its main features are: one is to increase the flexibility of assessment currency condition of central bank and ensuring currency stability; two is to limit leverage of adjustment of interest rate; three is that offshore market triggers the extreme fluctuation of onshore market price. The adverse effect of reserve currency on monetary policy autonomy is that after a country’s currency becomes reserve currency, demand and supply of currency does not depend on its residents, and the preference of reserve currency held by non-resident may become the factor to influence monetary policy effect. And through cross-border capital flow and currency exchange, the assets redeployment effect formed by non-resident because of domestic economy and international financial market, influences the demand and supply of reserve currency, so as to adjust passively monetary policy of issuing country of reserve currency.

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Section Three: The empirical analysis on the influence of status of reserve currency to monetary policy autonomy I. Theoretical model Following the traditional quantity theory of money and synthesizing the opinions of Cambridge school and Keynesian, Friedman put forward representative formula of currency demand function:

M d 1 dp  f(,,,,,) y w r r u (1) Pmx P dt M Thereinto, d means actual currency demand, y means permanent income, w P means the rate of return of non-human wealth and human wealth, rm means rate of 1 dp return of currency, r means rate of return of other assets, means the ratio of x P dt price change, u means other random factors, , and currency demand are proportional relationship, , and currency demand are proportional relationship.

The currency of a country becomes the reserve currency, the domestic and foreign economic variable can influence its demand, and the demand of non-resident becomes one of influential factors. It is held by non-resident individual or enterprise, or held by foreign government in the form of foreign exchange reserve. Under this circumstance, the demand of reserve currency adjusts to:

Md fywrrPu(,,,,,)(,,,,,) m x grrre m x f  v （2）

Thereinto, the first part means resident’s demand for reserve currency, the second part

means non-resident’s demand for reserve currency. rf means rate of return of

foreign currency assets, e means exchange rate of domestic and foreign currency,  means stock scale of reserve currency held by non-resident, and v means other random factors. From formula (2), we can find that under the condition of unchanged currency supply, the change of rate of return of foreign currency assets can influence price and interest rate of issuing country of reserve currency, by influencing the scale of reserve asset held by non-resident acting on total demand.

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The degree of influence decides on the elasticity of exchange rate and reserve currency stock held by non-resident.

II. Comparison of monetary policy autonomy across countries Monetary policy autonomy index. There are two classes of the existing index to measure monetary policy autonomy: One is to measure the capacity of maintaining domestic interest rate in a country different from that in other countries while not being passive to be adjusted, such as Glick and Hutchison (2009), Taguchi (2011) and so on; The other is to measure the explanatory ability of monetary policy shock at home and abroad to domestic output and inflation, for example Jansen (2008). The former class of index is more intuitive. We measure monetary policy autonomy index by calculating correlation coefficient of benchmark interest rate between the country and the the USA, referring to years of indexes from Aizenman et al. (2010, 2011), that is:

corr( i , ius ) ( 1) MI 1 1 ( 1) （3）

Where, MA is between 0 and 1 and larger MA value means stronger domestic monetary policy autonomy index (Yang Yanlin 2012). It should be explained that the MA index can not measure the autonomy of monetary policy in the United States. Therefore, in the measurement of relations between reserve currency status and monetary policy autonomy, measure monetary policy autonomy in the United States with the fluctuation of basic currency by using MA index to measure monetary policy autonomy in non-American countries. Monetary policies autonomy of Eurozone, Japan and the UK. Through utilizing 1-year libor of Eurozone, Japan and the UK, autonomy index of monetary policy of each economy in 1995-2014 is calculated according to Formula (3), as shown in Figure 17. Autonomy indexes of monetary policies of Japan and the UK don’t show increase or decrease with year, except for steady tendency increase of monetary policy autonomy of Eurozone in 2001-2007.

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Figure 19: Autonomy Indexes of Monetary Policy of Japan, the UK and Eurozone in 1995-2014

0.9 0.8 0.7 0.6 0.5 0.4 0.3 0.2 0.1 0

1995 1997 1999 2001 2003 2005 2007 2009 2011 2013

日本JapanThe THE英国 欧元区Eurozone USA Data sources: Reuters; IMF. Figure 19-22 respectively shows the autonomy indexes of monetary policies of Eurozone, Japan and the UK in 1995-2014 and the reserve percentages of officially held Euro, Yen and Pound around the world. There is no obvious correlation between two parts. In other words, interaction between monetary currency autonomy and reserve currency status of Euro, Yen and Pound, the three reserve currencies only next to US dollar, is not obvious. Figure 20: Autonomy of Monetary Policies and Officially Held Euro Reserve Percentage around the World of Eurozone in 1995-2014

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30% 90% 80% 25% 70% 20% 60% 50% 15% 40% 10% 30% 20% 5% 10% 0% 0% 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013

The percentage of Euro in Independence indexes of monetary policy 欧元在国际储备资产中的占比international reserve assets 欧元区货币政策独立性指标（右轴）of Eurozone (right axis)

Date sources: Reuters; IMF.

Figure 21: Autonomy of Monetary Policies and Officially Held Yen Reserve Percentage around the World of Japan in 1995-2014

8% 90% 7% 80% 6% 70% 60% 5% 50% 4% 40% 3% 30% 2% 20% 1% 10% 0% 0%

1995 1997 1999 2001 2003 2005 2007 2009 2011 2013

The percentage of Yen in Independence indexes of monetary policy 日元在国际储备资产中的占比 日本货币政策独立性指标（右轴） international reserve assets of Yen (right axis) Data sources: Reuters; IMF. Figure22：Autonomy of the UK Monetary Policy and Percentage of Global Official hold Pound Reserve in 1995- 2014

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6% 90% 80% 5% 70% 4% 60% 50% 3% 40% 2% 30% 20% 1% 10% 0% 0% 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013

Percentage of Pound in international英镑在国际储备资产中的占比 reserve asset 英国货币政策独立性指标（右轴) Independence index of the UK monetary policy (right axle) Data source: Reuters; IMF Autonomy of the the USA monetary policy. Figure 23 shows the fluctuation rate of the USA benchmark rate and the percentage of UA Dollar in global official foreign exchange reserve, and they do not have any obvious relation. Figure 23: Autonomy of the the USA Monetary Policy and Global Official Hold US Dollar Reserve in 1995- 2014

1995 1998 2001 2004 2007 2010 2013 Percentage of US Dollar in international reserve asset Libor fluctuation of US dollar in a year(right axle )

Data source: Reuters; IMF Section Four: Conclusion Theoretically, a country currency as a reserve currency will weaken the autonomy of domestic monetary policy, but the severity of influence is dependent on the degree (scale), exchange rate elastic of currency and policy choice of current currency of the reserve currency. According to the initial analysis of the situation in America, Euro zone, Japan and UK, the developing into reserve currency has no influence on the autonomy of its currency policy, and the main reasons are that first,

—50— except for US Dollar, the portion of Euro, Yen and Pound would not change at a big extent in official-worldwide foreign exchange reserve, which has a limited influence on the total requirement of currency; second, the reserve currency is in accordance with flexible floating exchange rate system. And the adjustment of exchange rate relieves the impact of non-resident reserve currency requirement on domestic monetary policy; third, in the internationalization process, the America and Germany both pay attention to curbing inflation and stabilizing the domestic economic finance as the prior goal. The status of exchange rate of US Dollar in American macroeconomic policy is constantly decreasing. However, the former Federal Republic of Germany not only initiatively permits the free floating of Deutsche Mark, but also adjusts regulatory measures according to the concrete situation of cross-border capital flows and frequent projects. Thus, the loss of autonomy of currency policy is avoided in the internationalization process.

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Chapter Five: Main conclusions Firstly, the costs and benefits of reserve currency are related with the international status of the currency. If the currency enjoys higher international status or in monopoly status in international currency system, currency- issuing countries will gain more returns and undertake smaller risks; on the contrary, if the currency is in lower international status, the country will face with more risks than returns. If the domestic currency is internalized or turn into reserve currency which is beneficial for issuing countries to win international reputation and status, only the prosperous economy can turn it into strong currency. In the middle of 1990s, the proportion of Yen in global reserves reached the peak of 7%. After Japanese economy experienced long-term stagnation, the proportion of Yen in global reserves gradually slid to 3-4%. The international status of Japan and Yen are not what they used to be. Secondly, the structure of the international currency system is center--subcenter--periphery, which also determines that there is also the level of center-subcenter in the structure of the international reserve currency. In the system, certain reserve currency acts as the standard currency (or central currency and key currency), and other reserve currencies are just the general international currencies. At present, US dollar is in the central status undoubtedly with unique and distinctive advantage status, thus, US dollar cannot be used for costs and returns of reserve currency to measure advantages and disadvantages of currency internationalization or non-internationalization. Thirdly, the function for the medium of exchange is the most basic function of international currency. Throughout the internationalized process of main reserve currencies, the trade surplus is always as a start. The increase and accumulation of this kind of currency promotes the position of one in international financial market, causing the development of other functions of domestic currency from its internationalization. The “current account deficit, capital account surplus” is an approach for domestic currency output, but no evidence shows it is the only approach. Neither different directions for trade balance of each issuer of reserve currency nor the —52— non-correlation between the change of each country trade balance and the change of reserve currency percentage shows the uniqueness of this approach at the data level. It is worth noting that the economies which has smaller economic size or bigger foreign-trade dependence is difficult to ensure the stability of domestic economic finance, through currency output in the way of trade deficit or capital outflow during domestic currency internationalization. The country with larger economy size has stronger autonomy for domestic economy and higher tolerance for “Triffin Dilemma”. In addition, balance of international payment and domestic currency internationalization are two different problems in nature, so the imbalance of international payment cannot be attributed to domestic currency internationalization. Fourthly, obtaining the low-cost financing from the world is the important returns of reserve currency status. The strength of this advantage is related to the reverse currency status, the natural advantages of issuing country of reverse currency, and the concrete objects like debt holders. The ability to borrow overseas of the reverse currency is formed along with the evolution of specific historical conditions, which is relatively slow and dynamically changing. The reverse currency courses of growth are different for US Dollar, Yen and Euro. The unique debt capital structure of US Dollar is unlikely to be imitated by the other catching-up currencies, thus it will keep a long-term advantage for the overseas borrowing. Fifthly, in theory, one country’s currency becoming the reverse currency will reduce the autonomy of that country’s monetary policy, while this extent is determined by the level (scale) of reverse currency, monetary elasticity of exchange and the policy choice of monetary authority. Seen from the preliminary analysis on conditions of the the USA, Eurozone, Japan and the UK, becoming the reverse currency has no significant influence on the autonomy of their monetary policy, which is also due to three factors above. Sixthly, the international core of one country’s currency is the natural selection process propelled by the market force and strengthened by the network effect. Catching-up countries in the global competition shall have a complete knowledge and sufficient patience of their internationalization of currency. While striving for —53— participation in harmonizing and maintaining the stability of existing international currency system, grasping and accumulating the available opportunities is the careful and sharp-sighted tactical arrangement. (Research group members: GUAN Tao, JIA Ning, LEI Dianfa, XIA Zuorong)

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