The Growth Map

In June 2004 Bob Hormats—vice chairman at Goldman Sachs who went on to become undersecretary of state for economic, energy and agricultural affairs at the U.S. State Department—and I jointly wrote a paper calling for three reforms to the G7 and G20 system: the formation of a “Financial 8,” adding China to the G7 finance ministers; a more substantial role for the G20; and a move to reduce the representation of the continental European members, France, Germany and Italy, to one from three.¹ (If the latter agreed, we argued the F8 would then reduce back to an F6, a much more powerful group.) In 2006, Edwin Truman of the Peterson Institute for International Economics (IIE) wrote a paper suggesting that the G20 had strong global legitimacy.² He argued that most of the members could be described as “systemically important countries,” countries whose economic performance and policies affect the global economy and the stability of the global financial system, and whose active or passive policies had effects far beyond their own borders. Ted argued that they needed to be held responsible for their activities in the world, in return for which they needed appropriate representation. The G20, he wrote, might be the best forum for giving them the voice their economic weight merited.

In his paper Truman showed that from 2000 to 2005, the G20 contributed around 77 percent of world nominal GDP, with the nonindustrial countries contributing more than the G7, 42.7 percent versus 34 percent. The lion’s share of the nonindustrialized countries’ contribution came from the BRICs, as it still does. The G20 includes not only the BRICs, but also several members of both our Growth Markets group and the Next Eleven, such as South Korea, Indonesia, Mexico and Turkey. Based on Truman’s definition of systemically important countries, it is easy to conceive of a world in which other N-11 countries, such as Egypt, the Philippines or Nigeria, achieve the status of Growth Markets, representing at least 1 percent of global GDP, and deserving of greater global representation.

While there are a number of countries hammering on the doors of the “G” groups, another persistent problem is ushering out those countries whose relevance has waned. Once a country has been admitted to a G group, it is hard to force it out. I have often thought that a major task for the IMF should be setting eligibility criteria for G groups. There should be a system of promotion and relegation based on clear objective indicators. Criteria could include size, wealth and perhaps something akin to a GES that measures sustainable progress.

It would be a tough diplomatic challenge for the IMF or anyone to manage the national egos and force implementation of such an approach, but, if successful, it would make the G groups consistently relevant and manageable. The prospect of membership could also serve to motivate countries such as Pakistan, Iran and Nigeria. The idea that under certain conditions they could be part of the club running global affairs might become a powerful incentive, in the same way that EU membership was coveted by the former Soviet states of Eastern Europe.

Right now, I hear from many G20 officials and their staff that the meetings of the group are so demanding that they are left with little time for anything else. Especially for smaller European countries such as the Netherlands, the status and influence acquired by being part of the G20 impose enormous bureaucratic demands. While more legitimate than the G7 or G8 in terms of its wider membership, it is not clear that the G20 is more effective.

Finding this balance between legitimacy and effectiveness is an ongoing problem for any global organization. The Japanese earthquake in March 2011 offered an interesting case study. Immediately after the earthquake, the Japanese yen inexplicably, and probably unjustifiably, started to rise, punishing Japan’s exporters at their moment of greatest weakness. It was the G7, not the G20, that came to Japan’s aid, intervening in the currency markets to drive down the yen.

The G7 acted because it was easier and quicker than trying to involve all the G20 countries. What would be ideal would be an organization with the legitimacy of the G20 but the decisiveness and flexibility of the G7. Once again there would be guidelines for changing membership, adjusting for economic reality, and the mechanisms for making timely financial interventions in the world economy.

As a basic criterion for membership in the G20, I would like to see only countries of significant economic scale, accounting for at least 1 percent of global GDP, represented. This would allow in all the current G7 members, the defined Growth Markets and others such as Australia and Spain. South Africa, Argentina and Saudi Arabia, all of which are current G20 members, would just miss out. Additional reference points for membership might be introduced, such as per capita wealth and level of development. To ensure that the group could be effective, a more legitimate G7 (or F8) could be established, to operate in emergencies, within or under the G20 umbrella.

As noted, one obvious step toward streamlining the management of the G7 and G20 would be merging the memberships of France, Germany and Italy into a single EU common currency membership. When the G7 intervened to restrain the yen in March 2011, it was the European Central Bank that operated in the foreign exchange markets, not the central banks of the individual countries. Since France, Germany and Italy now have a common currency and a common monetary policy, it seems simply through force of habit that they attend global economic meetings as separate entities. Moreover, as I often find myself thinking during periods of intense crisis for the European Monetary Union, it would send an extremely powerful signal to world financial markets if its three key members acted with one voice, with a single EU finance minister and the ECB president attending G7 meetings.

Canadian and British membership of the G7 might also soon come under scrutiny, but I see nothing wrong with that. Political pride might lead them to argue that exclusion from the G7 would diminish them internationally and economically. But I would disagree. Switzerland plays no role in the G7, and yet its currency is more important than Canada’s, and Zurich is a more important financial center than Toronto. Geneva, Zurich and even Singapore are more important than Italy’s financial centers in Milan and Rome.

Taking this streamlined vision even further, I can see a good argument for an even smaller group, a G4 and F4, made up of the European Monetary Union group, the United States, China and Japan, to manage global economic affairs at least for the next few years. Certainly China would have made a more potent participant in the recent yen intervention than Canada or the UK.

The BRICs, however, are not just standing by waiting to be invited by the traditional economic powers to join one or the other of their clubs. In 2009 their leaders decided to hold their first summit. They met, at the invitation of Russia, in Yekaterinburg in June of that year for two days. I was delighted to see an acronym I had created evolve into a rival to the G7. They met again in 2011, with South Africa added to the mix. My own invitations to the events must have gotten lost in the post.

On one level I cannot see the rationale for this new political club. The BRICs all have large populations and are likely to be the dominant influence on the global economy in the decades ahead. But beyond that they are very different. In terms of people, India and China, with more than a billion, dwarf the other two. In terms of GDP, China is nearly three times as big as Brazil and close to four times the size of India and Russia. In terms of per capita wealth, Brazil and Russia are currently of similar wealth and both much richer than China, with India lagging far behind. China matters to all the BRICs, but aside from that, these countries don’t matter so much to each other. It is not obvious to me that they have the common interests or common attributes that benefit from a regular mutual club-type association.

The G7 countries have many more shared characteristics, including that they are all well-developed democracies. Brazil and India have democratic political structures, but China and Russia do not. The addition of South Africa to the BRIC group in 2011 only adds to the confusion. Compared to the BRICs, it has a small population and small GDP. A better case could have been made for any of the other four Growth Markets. If it was seen as necessary to have an African member, Nigeria might have been an equally suitable candidate. South Africa appears to have been included because of its commodity prowess, but do the BRIC leaders want theirs to be a club of commodity producers?

Whatever the future of the global monetary system—and I hope it comes to reflect the tilt in economic influence—it remains very unlikely that a BRIC single currency would ever be adopted. The euro, for all its problems, serves a group of economies that are similar in terms of structure, wealth and shared political beliefs. The argument for the monetary union of France, Austria, the Benelux countries and the former West Germany was well founded. It became less convincing when expanded to include less wealthy countries, such as Portugal and Greece. But at least they were on the same continent. There is no similar logic for an everyday BRIC currency, unless of course it was part of a newly constructed and expanded special drawing right, incorporating the world’s other major currencies, which I will consider in more detail later in the chapter.

All of this being said, I can still see good reasons for the BRIC countries to meet alone these days—if only to show how ridiculous it is to keep excluding them from the G7 and to limit their influence at the IMF, the World Bank, even the United Nations. These are big countries in terms of population and size, and together are increasingly the marginal driver of world growth. They have a shared interest in the future of the global monetary system, and when they meet they discuss the increasing convertibility of their currencies and cross-border trade.

For now, at least, the G7 members are much more effective at high politics. In May 2011, for example, after Dominique Strauss-Kahn was forced to resign from the IMF, battle was engaged to choose his successor. The European countries quickly mobilized behind the French finance minister, Christine Lagarde, who embarked on a world tour to win support. The BRIC nation leaders did not adopt a collective stance; indeed, they all appeared to have their own preferences, although their preferences were not always made public. And while many commentators opined that the Europeans should no longer regard the managing directorship of the IMF as their right, there was in fact little opposition from the BRICs or elsewhere. Since the end of the Second World War, when the International Monetary Fund and the World Bank were established, the head of the IMF has been European and the head of the World Bank American, reflecting the division of economic power in the middle of the twentieth century. But this is clearly now an anachronism. The heads of the IMF and the World Bank should now be decided on merit, not nationality.

An effective head of the IMF or the World Bank must be technically capable of leading those organizations and, therefore, expert in economic matters. An effective head also needs to be skilled in negotiating with all its constituent members. I’ve heard it said that there are no suitable BRIC candidates for such difficult jobs. I disagree. Brazil’s former central bank governor Arminio Fraga and India’s deputy planning minister Montek Singh Ahluwalia would both be excellent candidates. Similarly, while not from a BRIC country, Mexico’s central bank governor Agustín Carstens seems very capable, as of course does Israel’s Stanley Fischer, formerly a senior official at the IMF.

The difficulties of appointing a Chinese head of the IMF came home to me at a Goldman Sachs BRIC event during the search for a successor to Strauss-Kahn. I was on a panel with Peter Sutherland, an Irish politician, businessman and former director general of the World Trade Organization, and Martin Wolf of the Financial Times. We were asked if we thought it was fitting for China to provide the next head of the IMF, given that it is not a democracy. Martin and Peter thought not. I was more equivocal. Since a country doesn’t need to be a democracy to join the IMF, why should officials from certain member countries be barred from serving at its highest level? Running an international institution based in Washington D.C. might prove a shock to someone raised within the Communist Party of China, but it would certainly not be impossible. And as China gets bigger and its global influence becomes greater and clearer, this will probably change. A future head of the IMF from China or any BRIC country must surely be a possibility.

For it to happen, the BRICs will have to become more politically astute. After Strauss-Kahn’s resignation, many in the BRIC countries talked about how unfair it was that the Europeans regarded the IMF as their fiefdom, yet they failed to come up with a mutually acceptable candidate to challenge Lagarde. While I repeat that the main criterion is that a head must be effective, irrespective of domicile, the fact that the BRIC countries could not decide on a joint candidate points to the limitations, at least currently, of the BRIC political club.

The IMF and the World Bank will also need to transform themselves to reflect the new world order. In the 1990s the IMF’s austere policy advice to troubled Asian economies was harsh and possibly inappropriate. It scarred its reputation, and left it looking biased toward European and U.S. interests. Sir Mervyn King, the governor of the Bank of England, made a powerful speech in India in 2006 arguing for radical reforms at the IMF. He said that unless the IMF invited India and China directly into central, global policymaking, it risked losing both its legitimacy and its relevance. He made several specific recommendations, among them that the IMF should improve its analysis of the appropriate net external asset and/or liability balance sheet positions of its members in order that advance awareness of vulnerability to external shocks be enhanced, and that it should be much more bold and directive in recommending appropriate exchange rates for member countries. Only then could the IMF claim a significant role in rectifying the vast imbalances building up on the world’s balance sheets.

Edwin Truman of the IIE went even further in his paper, recommending a shake-up of the IMF executive, reducing the number of European Union member seats from ten to one, admitting more countries from Asia and Africa, and adjusting voting rights and shares in IMF articles accordingly. Collectively these measures would create a stronger, more dynamic IMF, capable of issuing credible, respected recommendations for enhancing the world’s monetary and exchange rate system over time.

In 2009, provoked by the credit crisis, the G20 leaders met and agreed upon the basis for a new set of voting rights and ownership structure of the IMF. By the end of 2010, specific changes were agreed to, and by 2013 those changes should have been implemented. China’s share of the voting rights will rise to just above 6 percent, the third highest, just behind Japan. Each of the other BRIC countries will be in the top ten, reasonably consistent with the rising share of the world economy that each enjoys. In some ways, this is major progress, certainly compared with the days before the credit crisis, but whether the Fund can continue to adapt to the pace of the rise of the BRIC economic story remains to be seen. To some extent, that will depend both on whether the BRIC economies rise as I expect and on their own leadership. Changing the IMF’s leadership to reflect these dynamic changes should remain one of the organization’s top priorities.

As the BRICs and the other Growth Markets become ever more intertwined with the rest of the world, their political leaders will exert ever more influence on the global monetary system, and their demands from it will be increasingly relevant. But at the same time, their internal stability will continue to be paramount. Their ability to control inflation, and thus keep their citizens happy, will partly depend on what they choose to do about their currency regimes. For example, as China becomes more successful and developed, it will have to take inflation even more seriously. This means it probably will have less focus on keeping the value of the renminbi stable, and certainly not at the expense of domestic inflation management. In recent years, keeping it artificially stable against the dollar—by purchasing huge amounts of foreign currency—has kept China’s exports humming along. But as China develops and its people’s wealth and aspirations grow, the government will probably have to allow its currency to fluctuate more. This does not mean that the Chinese economy will have to suddenly become unstable, any more than the UK, the eurozone or the U.S. economy would as the pound, the euro and the dollar move up and down against one another. Keeping internal prices under control is a much more important measure of stability than the external value of the currency.

China is probably worried about a world where it could lose control of its exchange rate. Anyone who has endured a currency crisis can tell you how miserable it is. Interest rates soar, inflation takes hold and suddenly the dry technicalities of money supply dominate political discussion.

But despite the occasional crisis, the current floating exchange rate system has coped well with the immense challenges and crises that the world has been through since 1971–1973, when the Bretton Woods system was abandoned. That system had been implemented after the Second World War to regulate the international monetary system through managed exchange rates. When it ended, the major currencies were allowed to float freely against each other, and this system survived the 1970s oil price rises, the 1980s Latin American international debt crisis, the late 1980s to early 1990s turbulence within the European Monetary Union, the Asian crisis of 1997, the collapse of the Long-Term Capital Management hedge fund, the bursting of the Internet bubble in 2000–2001 and, most recently, the global credit crisis of 2007–2008. While major currencies have periods of volatility, they have broadly followed a predictable path.

Since I joined Goldman Sachs in 1995, my preferred methodology for understanding exchange rate movements has been to assume that, over time, exchange rates will reflect countries’ purchasing power parity (PPP) adjusted for their relative productivity performance. The GSDEER—Goldman Sachs Dynamic Equilibrium Exchange Rate—currency model that I developed was based on this premise. The core idea here is that, given certain inputs, currencies should trade at certain prices relative to each other. I then adjust this index to reflect the relative productivity in the different currency zones.

As I explained earlier, under PPP the price of a cup of coffee in New York converted into euros should buy a cup of coffee in Paris. In a more productive economy, the cup of coffee should cost a little less, as the inputs for making and serving it are used more efficiently. Relative productivity thus helps explain demand for a particular currency. Less productive countries tend to have weaker currencies and vice versa. The performance of the U.S. dollar against other major currencies through time reflects the fact that U.S. productivity continues to outperform that of most other major nations, thereby attracting the capital flows necessary to offset the current account deficit. Of course, there are movements around this equilibrium both up and down—a lot of the latter for the dollar in recent years—reflecting cyclical economic developments. But the underlying trends are nearly always driven by relative prices and productivity.

GSDEER has helped me understand currency movements. From the 1970s onward, the yen came under strong pressure to appreciate against the dollar and other world currencies. The Japanese economy was strengthening and becoming much more productive. From the mid-1990s onward, however, its growth slowed sharply and its relative productivity lost its edge. Since then, the equilibrium exchange rate between the yen and the dollar has stabilized, and until the global credit crisis it had become a much less volatile and directional trade. Of course, in the past couple of years, the yen has once again strengthened, although this time it seems unjustified, based on a GSDEER approach. The yen’s newfound strength appears to be a reflection of simply a weak United States and very low U.S. interest rates. I personally have doubts about yen sustainability.

Monitoring what has happened to European currencies against the dollar has been made trickier in the last twelve years by replacement of the deutschemark and other European currencies by the euro. Although the value of the euro has fluctuated more around its GSDEER-predicted path than the yen, its long-term performance has broadly been as expected. In this regard, all three of the major currencies—the dollar, yen and euro—have in the broadest sense evolved in line with the model’s fundamentals. The current monetary system has served this part of the world well.

Applying a similar model to the BRIC economies strongly suggests that the real equilibrium exchange rate for each will rise considerably against the dollar and other major currencies in coming decades. If the respective monetary authorities succeed in keeping inflation under control, this is likely to imply nominal appreciation in value. In the Goldman Sachs BRIC growth models, in fact, projected currency appreciation accounts for about a quarter of the potential U.S.-dollar value of GDP by 2050. Some of the projected future nominal GDP strength would not materialize if the BRIC currencies don’t follow this anticipated path, but based on long-term history as well as events of recent years, it seems reasonable to assume that they will.

Getting to that point, however, is not so straightforward. For any country to grow while allowing its currency to float on the stormy seas of the foreign exchange markets is a nerve-racking experience. In the so-called emerging economies, a whole variety of exchange rate systems has evolved, ranging from loose free floats for the Brazilian real and South Korean won to heavily managed currencies such as the Chinese renminbi and Indian rupee. In Europe, of course, most of the continent’s largest economies abandoned their own free-floating currencies to join the EMU. As the balance of world trade and the world’s capital market developments change, it is difficult to see the world’s monetary system remaining exactly as it is. What happens to both the value of and, more important, the use of the BRIC currencies is going to be a major issue.

Indeed, they will almost undoubtedly become part of the future global monetary system. Why? Well, consider again the possible path for the world economy in the current and next decade. Before the end of 2020, the BRIC economies combined will become larger than the United States. Before the end of 2030, China may become as large as the United States and the other BRIC economies may match those of the G7. Can we have a global monetary system that does not include the currencies of all its biggest economies? No.

For the BRIC countries themselves, this is a vital domestic issue. If their policymakers want to ensure low and stable inflation, they will have to deal with the consequences of nominal exchange rate appreciation. Adopting a more flexible exchange rate system would be a useful tool in targeting inflation, which, as I have said, should be a priority for any ambitious developing economy. It would also help rectify the current balance of payments asymmetries, such as China’s huge holdings of foreign exchange reserves. For years now, China has been on the other side of the U.S. trade and current account deficits, sending out its exports and hoarding dollars and Treasury bills. The United States has been putting pressure on China to let the renminbi appreciate in nominal terms. In 2010 and 2011, the Chinese did allow some modest nominal appreciation, but perhaps not quickly enough to offset the impact of the earlier stance, and as a result let some inflation into their economy. How China handles this classic struggle between managing its currency and managing inflation will define its relations with the world for years to come.

Brazil offers a very different model. In 1999 it introduced a formal target for inflation, in an attempt to end decades of hyperinflation and accompanying currency crashes. Since then, its economy has stabilized and grown, and its currency has become particularly popular with investors. This would have been inconceivable just a few years ago. The Brazilian real may well be on its way to becoming an important global currency.

The rise of the BRIC currencies might ultimately threaten the supremacy of the dollar as the currency of international trade, finance and exchange rate setting. It is apparent from the communiqués of BRIC finance ministers and leaders I read that an increasing amount of bilateral trade among the BRICs is bypassing the dollar and being conducted in their own currencies. As the BRICs continue to grow, and rival the United States and G7 in size, this trend is bound to increase.

There will be similar, unpredictable consequences in the rest of the world. The euro will be challenged by the rise of the BRIC currencies, assuming it survives its considerable current challenges. Except for China, none of the other BRIC countries is likely to approach the size of the United States or the European Union in the next twenty years. India and Russia, though, might match Italy, France, Germany or even Japan.

So, while it is inevitable that the currencies of Brazil, India and Russia will be more desirable for trade and investment, it is only in the unlikely event that the BRIC countries were to share a currency that their combined economic weight might be relevant in the monetary context. And I find it difficult to conceive of such a shared currency. The problems the European Monetary Union has been experiencing of late have only strengthened skepticism about the number of countries that use the euro. Using an external currency means ceding overall control of monetary policy, at the very least, and in hard times accepting even tougher constraints on domestic fiscal and broader economic policies than would be necessary with a sovereign currency. Given their many differences, it is hard to see the BRICs making the concessions and commitments required to share a currency.

The renminbi alone, however, has the potential to join the dollar and the euro as a global reserve currency. China is already close to being the largest exporter in the world. Even if over the coming decade its exports were to grow at half the speed they did from 2000 to 2010, China would still easily become the world’s largest exporter. At the point when it is the world’s largest economy and largest exporter, it is hard to imagine its currency not assuming an importance equal to the dollar and the euro. As China’s capital markets develop, investors will clamor for more renminbi in order to hold more Chinese equity and debt. As I will discuss in the next chapter, by 2030 a neutral benchmark of global equities is going to have to include considerably more exposure to China and the other BRICs, which in turn will drive demand for the BRIC currencies.

We are already seeing the seeds of this trend being sown in Hong Kong, which the Chinese seem keen to develop as an offshore center for the renminbi. Since mid-2010 the Chinese authorities have permitted greater use of the renminbi there, and individuals have seized the opportunity to own the currency. Hong Kong also has a growing renminbi bond market. In February 2011, the World Bank issued its first renminbi bond. A number of international companies have done the same, with McDonald’s being the first.

At some point in the future, China will probably make its currency fully convertible, insofar as it would be available for use by all Chinese citizens and the rest of us without any restriction. Many others would certainly like it to. Today, the UK Treasury and other major governments, for example, cannot really hold any reserves of renminbi because it is not convertible. Many pension funds will not invest in China for the same reason. Once that changes, prodigious sums of international money could more easily flow into China.

There are, of course, risks to this, and the Chinese and the other BRICs are right to be careful. They worry that traders will make their currencies volatile, and don’t want to introduce free-floating exchange rates until their domestic financial markets are more fully developed. The Chinese know that the Americans don’t care about Chinese currency convertibility for its own sake. The Americans want a stronger renminbi because it would strengthen U.S. manufacturing. But perhaps the Americans should be careful what they wish for. If China’s currency were to strengthen a great deal, America would no longer be able to blame China for its own economic weakness if its domestic industry failed to gain dramatically as a result of business returning to the (now relatively cheaper) United States from (the now relatively more expensive) China. While the United States will benefit from a rise in the renminbi, it is likely that other less well-advanced nations such as Mauritius and some among the N-11—Bangladesh and even Mexico, for example—could benefit just as much, and so reduce the direct benefits for the United States. I continue to believe that the rise of the Chinese consumer will be more important to the future health of the United States than the value of the Chinese currency.

China has given quite a lot of thought to these monetary issues. Again, return to 1997 and the Asian currency crisis, when China showed it could identify the real problem (the weakness of the yen) and persuade America to do something about it. It showed an impressive degree of economic muscle and understanding. The Chinese might prefer a foreign exchange market that they can control, perhaps their own version of Bretton Woods. I do side with those who believe the world is better off with floating exchange rates and fewer currency controls, properly managed. But I am not doctrinaire about it.

There may be another future path the renminbi could take, an alternative to the free float and convertibility that many of us in the West assume are the only options. So far I have focused on the conventional view that as China’s capital markets become more established and it relaxes controls on trade and currency movements, the renminbi will move inexorably into place as a free-floating, freely traded global currency. But in the past few months I have found myself starting to imagine a different, perhaps less conventional monetary future. It is conceivable that China could become as large as suggested but that the Chinese authorities do not allow a free float of the renminbi or free use of it across China’s borders. It is conceivable that China, along with the other BRICs, might try to persuade the rest of us that a free-floating monetary system is not as useful as we all think, and a different monetary system could emerge.

Western economists tend to think that developing economies move along predetermined paths toward greater openness, and that global interconnectedness leads to greater stability. But increasingly I find myself wondering whether China and the other BRICs will be quite so eager to embrace the floating exchange rate system and allow their currencies to become more like reserve currencies. While the United States and other developed countries such as the United Kingdom, Australia, Canada and the like still believe in the virtues of floating exchange rates, it is not clear that any of the BRIC countries share their enthusiasm.

Even the buildup to the introduction of the euro offers a precedent. While the U.S. authorities have happily embraced the reserve currency status of the dollar for a long time, not all Europeans, notably German policymakers, have been so keen on a similar fate for the euro. Being a reserve currency entails certain costs, notably increased demand, which can seriously deplete the issuer’s balance of payments. Certainly before the euro’s existence, German policymakers were never keen on the deutschemark playing such a role, which would have committed them to considering the external consequences of their domestic policy decisions.

This dilemma will become more acute for China’s monetary mandarins as their economy gets bigger and more and more of us want to use their currency for trade and investment purposes. Chinese policymakers will, I’m sure, think long and hard about what it is they want to achieve by granting a greater global role to the renminbi.

When Chinese leaders talk about the importance of a new international currency system, they do not simply mean the elevation of their own currency to reserve status. In 2009 China’s central bank governor, Zhou Xiaochuan, observed that “the outbreak of the [financial] crisis and its spillover to the entire world reflects the inherent vulnerabilities and the systemic risks in the international monetary system” and urged the world “to create an international reserve currency that is disconnected from individual nations.” He mentioned the Triffin dilemma, identified by the economist Robert Triffin, who observed that in the fixed-rate Bretton Woods system, the supplier of a reserve currency will always end up running deficits in its balance of payments in order to keep up with demand for its currency. The United States keeps printing dollars and the Chinese and Japanese keep buying them.

In this context I also find myself wondering whether there might be a bigger role for the so-called special drawing right (SDR), and for the BRIC currencies within it. This idea has become increasingly fashionable among policymakers and academics, and was suggested by the French when they chaired the G20 in 2011. Special drawing rights are claims to a basket of U.S. dollars, sterling, euros and yen, allocated to countries by the IMF as an alternative to foreign exchange reserves. The SDR is not a true currency in the same way that the dollar or the euro is; it is the IMF’s accounting unit. Under IMF rules and usage, the component currencies of the SDR are changed every five years (most recently in 2010). They are determined by the proportional role played by a currency’s country in exports, and by its use in foreign exchange reserves of central banks. The French have proposed that the basket should include the renminbi, although they were careful not to suggest a date. Given China’s export prominence, the argument for its inclusion seems overwhelming. And based on the likely rise of China’s share of global trade, its absence from the SDR will become odder and odder.

The argument for early inclusion is weakened, though, by the fact that the renminbi is not currently important as a currency for central bank reserve management. It is often believed that the IMF rules state that a currency needs to be freely convertible to be eligible for SDR involvement, because logic suggests that countries will not want to hold a currency within its reserves unless that currency is freely usable and convertible. But the French authorities, I suspect, believe that offering SDR membership to the renminbi might encourage China to accelerate the pace at which it makes its capital account convertible, as well as the pace of renminbi appreciation. Whether the Chinese would see the benefits of early participation of the renminbi in the SDR is debatable—especially if it were to impose on them a faster timetable for decisions about the use of the renminbi than otherwise.

But there are also significant arguments against expanding the use of the SDR. If the purpose of bringing the renminbi into the SDR is to pry open China’s monetary system, then once that system is open, why would investors want to hold the SDR? If they had access now to the renminbi as well as other highly liquid currencies, why bother with the SDR? One of the major reasons private investors do not hold many SDRs today is that they can easily buy and sell its component currencies. An even more significant problem is that if you try to turn the SDR into a world currency, then you also have to create a world central bank to back it up. I find it hard to imagine the United States, or any other major economy, giving up control over domestic policy in order to be part of a world monetary system. It would take a bold politician even to suggest such a measure.

As for the Chinese, I also wonder if their interest in expanding the SDR arises so much from a desire to have complete control over their currency without succumbing to the external responsibilities imposed by having a fully convertible renminbi. It probably also stems from nervousness about the continued role of the dollar in the future. All in all, even if China is to become the world’s largest economy and trading nation, I am not entirely convinced that its policymakers will allow the currency to be as liquid and tradable as the dollar.