| Dangers in denominating Nigeria’s
foreign reserve in dollars
By SEUN ADESIDA
Thursday, November 16, 2006
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•Soludo
Photo: Sun News Publishing |
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Governor of Central Bank of Nigeria, Prof. Charles Soludo
said Nigeria needs the stockpile of foreign reserve, to build
confidence in the economy and as well as stabilize the Naira.
Arguments have been advanced on the need to apply the foreign
reserve in infrastructural development in Nigeria. While yet
another group are querying the sense in keeping $41billion
abroad while joblessness is soaring on a daily basis.
International economists are however querying the basis of
keeping huge foreign reserves in a single currency, with most
advocating for a diversification of foreign reserve into other
ventures and also denominate into other currencies to avoid
huge losses in the event of collapse of the American dollar.
This is majorly because the international market is awash
with dollars earned from high oil prices.
The value of the dollar is at present sliding, and there are
growing concerns that if steps are not taken now to check
the slide, it could effectively wipe out the value of the
country’s foreign reserve along with American dollar.
The fear of loosing an entire nations reserve has now prompted
most central banks across the globe to begin switching to
the euro, and according to economists, the logical next step
would be for all fuel-exporting countries to start quoting
oil prices in euro too. And if they quote in euro, invariably
they most also maintain a euro based foreign reserve.
Because many countries denominate their foreign exchange in
dollars, the US currency accounts for more than two thirds
of all central bank reserves worldwide.This reserve status
means that the dollar is constantly in demand, whatever the
underlying strength of the US economy.
With massive trade and budget deficits, America is increasingly
reliant on that status. The unprecedented weight of US liabilities
means that a threat to the dollar's dominance could result
in a currency collapse, plunging the world's largest economy
into recession. Without sounding alarmist, this won't happen
immediately. The dollar has sat astride the globe for some
time now, in fact, for most of the last century.
Now Russia, a super power and a country of growing financial
and strategic significance is comtemplating diversifying its
foreign reserve holding. When Russia made this intention known,
it caused the dollar to slide. It also fuelled speculation
that central banks are increasingly diversifying their holdings
away from dollars.
Alexei Kudrin, Russia's finance minister, recently dropped
a bombshell in Washington. While attending the annual meetings
of the World Bank and International Monetary Fund, Kudrin
caused his American hosts discomfort by openly questioning
the dollar's pre-eminence as the world's "absolute"
reserve currency.
The dollar’s recent volatility and the yawning US trade
deficit, "are definitely causing concern with regard
to its reserve currency status," he said. "The international
community can hardly be satisfied with this instability."
Kudrin's intervention coincided with another meeting, also
in Washington, of finance ministers and central bankers from
the Group of Seven(G7)s, which doesn't include Russia. Top
of the agenda: The effect of ever-rising oil prices on inflation
and interest rates. G7 countries are worried the spiraling
price of crude, which closed at over $60 a barrel last week
and which has now trebled in three years - could inflict real
economic damage.
The US Federal Reserve, in particular, has been forced to
take drastic action, raising interest rates 15 times since
June 2004 to keep inflation in check. Given that fragility,
it is significant that Kudrin is now wondering aloud if the
long-standing dollar hegemony can last. For him to do so is
to highlight that America is vulnerable should that status
be lost.
That's because Russia, with its awesome oil and gas reserves,
could kick-start a challenge to the dollar's supremacy.
Kudrin's statement followed news that Sweden has cut its dollar
holdings, from 37 per cent of central bank reserves to 20
per cent, with the euro's share rising to 50 per cent. Central
banks in some Gulf states have also lately mooted a shift
into the euro. Such sentiments helped push the dollar to a
seven-month low against the single currency last week.
One reality is that as long as most of Opec's oil is priced
in dollars, the US currency will retain its hegemony. But
the opening of an oil bourse in Tehran, which now looks likely,
will signal at least tacit Saudi consent for euro-based oil
trading. The US knows this, which is why it is nervous about
the dollar's status being questioned.
World Bank/ IMF meetings have been dominated by questions
of global financial imbalance - in particular, America's huge
deficits. Kudrin's missive comes as central bankers, and currency
dealers, start to conclude the only way to resolve the massive
US external deficit is a somewhat weaker US currency. As the
IMF itself warned, that a "substantial" dollar decline
may be needed.
The likelyhood of a devauled dollar has prompted China to
diversify part of its forex reserves to avoid losses which
are linked to a devaluation of U.S backed assets. The suggested
change was a move to diversify parts of its large reserves
into gold and oil.
Using some of the forex reserves to buy gold could "maintain
and raise the value of China's dollar holdings," Zhao
Qingming from the central bank's Financial Research Institute
and Luo Bin from its accounting department wrote in a note
published in China Money Market this month.
It is not clear of any possible policy changes by China's
Central Bank. China's foreign exchange reserves hit the $1
trillion mark at the beginning of November. But as the figure
rises, so does the debate over how to best manage it. The
reserves, already the world's biggest, surged to 987.9 billion
dollars at the end of September, largely driven by a burgeoning
foreign trade surplus and massive inflow of foreign direct
investment (FDI).
In the first nine months of the year FDI stood at $42.59 billion,
although this was a 1.52 per cent drop year-on-year. Reserves
grew on average $18.8 billion each month from January to September,
statistics from the central bank show.
While other economies are moving away from a dollar denominated
foreign reserve, Nigerian economists are also canversing for
a difersication of Nigeria foreign reserve from the dollar
into other strong currencies. So that Nigeria will not be
exposed to the danger of a failed currency.
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