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Mundell, currently an economic consultant to China, is the originator of the suggestion that the International Monetary Fund should utilize Special Drawing Rights, or SDRs, to replace the dollar as a new standard for holding foreign exchange reserves in international trade transactions.
SDRs are international reserve assets calculated by the IMF in a basket of major currencies allocated to the IMF’s 185 member nation-states in relation to the capital. The assets are largely in gold or widely accepted foreign currencies the members have on deposit with the IMF.
As far back as June 2008, Mundell was telling Reuters a major dollar crisis would come within five years, and China was discussing with him proposals to reform the global monetary system.
“There’s no doubt about it that inside the Chinese government there’s a lot of discussion going on,” Mundell told Reuters. “I’m not sure how they’re doing it, but I know they’re going to get input from me.”
In the interview, Mundell went so far as to speculate the Chinese-recommended solution would involve the IMF.
Aspiring to be the father of a global currency, Mundell has argued, “What you need to have is an International Monetary Fund that’s going to take some of these excess dollars (such as held by China in foreign exchange reserves), put them into a substitution account inside the IMF or some other institution and then use that to create what is a new international currency.”
Mundell stressed to Reuters that such a proposal would be “very acceptable” to China.
Optimum currency areas
Mundell has argued for decades the proposition that nation-state currencies, including the dollar, need to give way to a new official world currency.
According to Mundell, an “optimal currency area” is best defined by international free-trade areas and regional markets, not by nation-states such as the United States of America.
Mundell’s argument was that nation-states are not optimal currency areas because nation-state borders are artificial constraints imposed on the globe to create ethnic or historical divisions that do not necessarily represent how international markets operate.
To understand the concept, Mundell cites former Federal Reserve Chairman Paul Volcker’s frequently quoted dictum, “A global economy needs a global currency.”
The G20 summit meeting in London last week, through the International Monetary Fund, took an important step to create a new global currency to replace the dollar as the world’s foreign exchange reserve currency of choice.
Point 19 of the final communiqué from the G20 summit in London April 2 specified, “We have agreed to support a general SDR which will inject $250 billion into the world economy and increase global liquidity,” taking the first steps forward to implement China’s proposal that Special Drawing Rights at the IMF should be created as a foreign exchange currency to replace the dollar.
Then, a few days later, on March 24, the Financial Times in London reported China’s central bank governor Zhou Xiaochuan has proposed to utilize SDRs issued by the IMF as a world reserve currency.
The coincidence of the two announcements gave the impression Moscow and Beijing had coordinated their efforts to undermine the dollar.
The G20 final communiqué gave the strong impression the meeting adopted China’s proposal.
China’s proposal called for the IMF to issue at least $250 billion in SDRs to IMF-member states as a method of placing a safety net under developing countries that might otherwise have to declare bankruptcy.
As Red Alert previously reported, the proposal originally advanced by China and Russia would issue SDRs to central banks of IMF member states far in excess of any gold or currency reserves the member states have on deposit with the IMF.
The idea is to utilize the little-understood and largely ignored SDRs in a new capacity, as a sort of an international overdraft facility made available to bankrupt or financially failing IMF members, originated with Ted Turner, formerly a senior official at both the Federal Reserve and the U.S. Treasury.
The IMF created SDRs in 1969 to support the Bretton Woods fixed–exchange-rate system.
“The international supply of two key reserve assets – gold and the U.S. dollar – proved inadequate for supporting the expansion of world trade and financial development that was taking place,” a document on the IMF website explains. “Therefore, the international community decided to create a new international reserve asset under the auspices of the IMF.”
When the Bretton Woods fixed-rate system collapse, major world currencies, including the dollar, shifted to a floating exchange rate system where the price of the dollar and other major world currencies was created by trading on international currency exchanges.
Until the current global economic crisis, SDRs issued by the IMF have been used by IMF members primarily as a reserve account to support international trade transactions, not as an alternative international currency available to settle international debt transactions in danger of default.