Source: Zhang Ming Macro Finance Research, originally published in International Finance, Issue 11, 2023.
Abstract:Following the global financial crisis, the outbreak of the Russia-Ukraine conflict has once again triggered the discussion of the reform of the international monetary system in the academic and policy circles, and the voice of de-dollarization has risen, and it has become an important theoretical and practical issue to summarize the evolution experience of the international monetary system and predict the future trend of the international monetary system. On the basis of summarizing the lessons learned, this paper analyzes the evolution of the international reserve currency system in the next 30 years. The results show that: first, the fundamental change of the international monetary system is the result of the game between the great powers, and economic strength is the basic factor, and its impact has a long-term lag; second, only after the economic strength reaches a certain level, the improvement of financial factors will help accelerate the internationalization of currency; third, although the international reserve currency system will develop in the direction of multipolarity in the next 30 years, it is difficult to change the dominance of the US dollar, and network externalities are an important factor restricting the evolution of the international reserve currency system; fourth, under the baseline scenario, the share of RMB international reserves in 2050 will be 10% or so. The above findings enlighten us that the internationalization of the renminbi should be carried out prudently and steadily, and that it is irrational to prematurely pursue the level of renminbi internationalization that matches China's economic strength in the short term, and that the internationalization of the renminbi should be based on domestic interests, and that only the long-term sustained growth of China's economy can achieve a breakthrough in the internationalization of the renminbi.
The original title of this article: Zhang Ming, Zhang Chong, Wang Zhe: The Development Trend of Currency Internationalization from the Historical Evolution of International Reserve Currencies (1947-2050)
I. Introduction
Some scholars pointed out that financial sanctions fundamentally shook the credit foundation of the Bretton Woods system II (Yu Yongding, 2022), and some scholars imagined the emergence of the Bretton Woods system III in the future, with the US dollar and commodities sharing international monetary status (Zoltan, 2022a, 2022b). If we stretch the time period longer (as shown in Figure 1), we find that the collapse of the Bretton Woods system in 1973 was a fundamental historical event in the international monetary system over the centuries. Prior to this, precious metals (mainly gold) were the ultimate currency anchor at the gold standard, the gold exchange standard, and the "gold-dollar" standard during the Bretton Woods system. Under the credit standard, the instability of the international monetary system has increased, international financial crises have occurred frequently, and global inequality has intensified. Whether the dominance of the US dollar can continue to be maintained after the Russia-Ukraine conflict and how to carry out the internationalization of the RMB needs to be discussed in depth.
Benefiting from the good long-term historical data, the share of international reserve currencies has become an important starting point for analyzing the evolution of the international monetary system. According to Chinn and Frankel's (2008) definition of the connotation of currency internationalization, reserve currency is the expression of the function of storing the value of international money in official use. It is generally believed that international reserves are based on valuation and settlement, and are an important indicator of the level of currency internationalization. Figure 2 records the rise of great powers and the change of global reserve currencies since 1450, and we find three characteristic facts: first, the change of reserve currencies has a certain historical cyclical law, that is, the time for each currency to dominate the international reserve system is about 80 to 130 years; The process of rise and replacement, which (with the exception of the US dollar) often ends in war, and the emergence of reserve currencies before the pound sterling (inclusive) has a special historical background, namely the development of the Great Voyage and colonial trade. If the establishment of the Bretton Woods system in 1944 is the beginning of the dollar-dominated reserve currency system, almost 80 years have passed by 2022. According to the International Monetary Fund's official foreign exchange reserve currency composition (IMF COFER) database, since 2010, the multipolarization trend of the international reserve currency system has increased significantly, and whether the US dollar can continue to dominate the international reserve currency system in the future needs to be further verified.
This paper first summarizes the evolution characteristics and lessons learned of the international reserve currency system after the establishment of the Bretton Woods system, and then further analyzes the scenario of the evolution of the international reserve currency in 2050. The Bretton Woods system is the foundation of the current international monetary system, and the period from 1946 to 1973 saw the transformation of the US dollar completely replacing the British pound as the dominant international reserve currency, which is the only typical case where we can analyze the fundamental changes in the international monetary system through real data. Historical experience shows that the fundamental change of the international monetary system is the result of the game between the great powers, and economic strength is the basic factor, but its impact has a long-term lag. The simulation results show that until 2050, the US dollar will still dominate the international reserve currency system, but the diversification of the whole system is more obvious, and although the share of RMB international reserve currency has increased significantly, the share of RMB international reserves in different models under the base scenario has never exceeded 13%. At present, maintaining the stability of economic fundamentals and steadily and steadily promoting the internationalization of the renminbi are still the best choices for the mainland.
The possible contributions of this paper are: first, this paper sorts out the history and lessons learned from the evolution of the international monetary system since World War II, and strengthens the historical empirical evidence for judging future trends; Thirdly, it is of great practical significance to explore the internationalization of RMB in the new cycle, and the conclusions of this paper show that the dominant position of the US dollar will continue in the short and medium term, and the internationalization of RMB should not be rushed, and long-term stable economic growth will help improve the level of RMB internationalization.
2. Literature review
Dialysis of the influencing factors of the changes of the international reserve currency system is the basic premise for predicting its trend. In general, the factors influencing currency internationalization can be divided into economic factors and non-economic factors. In terms of economic factors, Chinn and Frankel (2008) summarize the factors affecting the currency share of foreign exchange reserves as fundamental factors (output and trade levels), monetary confidence (inflation and exchange rate movements), There are four categories of financial development (liquidity and capital account openness) and network externalities, and most subsequent studies have used these factors as the basic analytical framework (Li Daokui and Liu Linlin, 2008, Lee, 2014, Peng Hongfeng and Tan Xiaoyu, 2017, Xu et al., 2023). In terms of non-economic factors, the existing literature mainly emphasizes the role of military strength, political stability, and political alliance in promoting currency internationalization (Li Wei, 2012, Peng Hongfeng and Tan Xiaoyu, 2017, Zhang Chong et al., 2023), and the existing literature also focuses on the "Belt and Road" (Lin Lefen and Wang Shaonan, 2016, Song Ke et al., 2022a), currency swaps (Li Wei and Zhu Yihong, 2014, Zhu Mengnan et al., 2020, Song et al., 2022b), The role of central bank policy (Wang et al., 2021) and other policy factors is examined.
In the early days of RMB internationalization, based on the analysis of influencing factors, a number of literatures emerged in the academic community to predict the evolution of the international monetary system. Judging from the results, the prediction bias is large. Chinn and Frankel (2008) used indicators such as global GDP share, inflation, exchange rate changes and inertia to predict the share of international reserve currencies in the euro, which became the basic model for predicting the trend of international reserve currencies (hereinafter referred to as the C-F model). Chinn and Frankel (2008) predict that if all EU countries (including the United Kingdom) join the eurozone, the euro's share of international reserves will exceed that of the dollar by 2020. Subsequently, Chen (2007), Li Daokui, Liu Linlin (2008), Sun Haixia, Xie Lulu (2010), Shi Qiaorong (2011), Li Jianjun et al. (2013), and Lee (2014) all predicted the future share of RMB international reserves based on the C-F model, but the results were very different. Li Daokui and Liu Linlin (2008) show that under the assumption of full convertibility and the most optimistic forecast, the proportion of RMB reserves may reach nearly 20% by 2020, while Sun Haixia and Xie Lulu (2010) use the panel data regression method to predict that the proportion of RMB reserves in 2020 will be 8.5%, which is basically the same as that of the yen. Other forecasts are relatively low, among which Shi Qiaorong (2011) predicts that the proportion of RMB reserves in 2030 will be between 3.52% and 9.37%, ranking fourth in the world, and Li Jianjun et al. (2013) and Lee (2014) simulation results show that the proportion of RMB reserves will reach 10% (or more) in 2030, ranking third in the world. On the whole, except for a few studies such as Shi Qiaorong (2011), the prediction of the future international currency status of the renminbi is generally optimistic.
This paper argues that the differences in the prediction results and the general optimistic expectations of the future internationalization level are mainly due to two points: one is the optimistic prediction of future economic variables, and the other is the bias in the model setting and estimation methods. First of all, in terms of variable prediction, the above literature was basically published at the beginning of RMB internationalization. On the one hand, the rapid growth rate of China and the global economy before 2008 led to a more optimistic forecast of China's economic growth in the future (e.g., Li Daokui and Liu Linlin, 2008). Secondly, the model setting and estimation aspect. On the one hand, the above-mentioned model basically uses the current value of the variable to predict, and adds the lag period of the explanatory variable to the model, in fact, the impact of each variable on the level of currency internationalization has a lag; on the other hand, the above-mentioned model uses the panel data estimation method in the estimation, that is, different currencies are estimated together, and the RMB is an emerging currency that is being internationalized, which is different from the development trend of mature international currencies, and the use of panel data estimation method ignores this difference to a certain extent.
At present, the international monetary system dominated by the US dollar has been hit by global uncertainties such as the new crown epidemic and the Russia-Ukraine conflict, and the internationalization of the RMB has also entered a new development cycle since 2018. Based on the new reality, this study aims to make up for the shortcomings of the existing forecast literature from the following two aspects: first, to analyze the historical evolution experience of the international reserve currency system, find the most important factors affecting currency internationalization, and find that these factors have long-term lag effects, and then add the predictors and their (long-term) lag to the prediction model to measure the impact of the variables themselves and network externalities on the level of currency internationalization; 。 Second, in order to reduce the influence of model and variable setting on the prediction results, this paper examines the situation under five models and three scenarios at the same time, and the setting of the future development of the explanatory variable under the three scenarios covers a wide range and can include more possible future developments. These improvements will help us to more accurately judge future changes in the international reserve currency system.
3. Lessons from the evolution of the international reserve currency system: 1947-2022
(1) Characteristic facts of the evolution of the international reserve currency system after World War II
The evolution of the international reserve currency system after World War II can be divided into two stages: the former period is the Bretton Woods period, and the latter stage is the post-Bretton Woods period, or Bretton Woods II. The 1947-2015 global foreign exchange reserve currency composition data provided by Eichengreen et al. (2017) provides a detailed record of the evolution of the international reserve currency system during this period, while the IMF's official foreign exchange reserve currency composition (COFER) database records the evolution of foreign exchange reserves in recent years.
The comparison shows that there are two significant differences between the Bretton Woods period and the post-Bretton Woods period: the development trend and the currency standard. First, the development trend is different. The Bretton Woods period was the process of rapidly replacing the British pound with the establishment of a new international political, economic and monetary system after World War II. As shown in Figure 3, in 1947 the US dollar was only 13.3% of the reserve currency, while the British pound was 87.4%, which was overwhelmingly dominant. As a direct result of the establishment of the new international monetary system after World War II, the share of the US dollar reserve currency linked to gold increased rapidly, and in 1954 it was on an equal footing with the British pound, and by 1973, when the Bretton Woods system was dissolved, the share of the US dollar reserve currency had reached an absolute dominance of 76.1%, on the contrary, the share of the British pound reserve currency had shrunk to the level of 5.6%. The post-Bretton Woods period is a process of multipolar development of the international monetary system under the state of the US dollar. At the end of the Bretton Woods system, the dollar's currency confidence was hampered by the "Triffin problem", and Europe began to huddle, with Germany, with a strong economy and credible monetary policy, becoming the core country. After the collapse of the Bretton Woods system, France, Germany, Italy, Belgium and other Western European countries formed a "serpentine floating system" to maintain exchange rate stability, and in 1979, France and Germany jointly promoted the creation of the European Monetary System (EMS), and since then Western Europe has formed a monetary system with the mark as the core. In the period 1980-1998, the sum of the reserve currency share of the mark and the franc remained at around 15 per cent for a long time. In 1973, the Japanese government began to pursue the internationalization of the yen, and from the 1980s onwards, the Japanese government began to pay attention to the internationalization of the yen and promoted the internationalization of the yen through orderly financial liberalization reforms. The share of yen reserves peaked at 8.5% in 1991, before falling to around 4% and remaining stable. In 1999, the euro replaced the mark, franc, guilder, European currency unit and other European currencies to become the second largest international reserve currency, with the share of reserves reaching a peak of 27.7% in 2009 and gradually declining to about 20.47% in 2022. In 2009, China started the internationalization of the RMB, and in 2016, the RMB officially joined the SDR. By 2022, the share of RMB reserves has reached the level of 2.69%. Since the beginning of the 21st century, although the US dollar is still dominant, the overall trend is declining, and the entire international reserve currency system is showing a multipolar development trend.
Second, the currency standard is different. The "gold-dollar" standard is the monetary standard of the Bretton Woods period, and the credit standard is the monetary standard of the post-Bretton Woods period. During the Bretton Woods period, the U.S. dollar was pegged to gold, which was the basis for U.S. dollar issuance and an important support for U.S. dollar currency confidence. As the U.S. trade deficit widens, the U.S. dollar struggles to maintain parity with gold, and the "Triffin problem" is getting more and more serious. In 1971, the decoupling of the dollar from gold mitigated this problem to some extent. In the post-Bretton Woods period, the dollar was decoupled from gold, gold was demonetized, and paper money (mainly the US dollar) backed by national credit became an international reserve. Under the credit standard, economic strength, military strength and political influence are the solid backing of a country's credit, and mature financial markets and safe assets with depth and breadth are also important sources of monetary confidence.
(2) Lessons learned from the evolution of the international reserve currency system
The evolution of the international reserve currency system after World War II includes important events such as the replacement of the British pound by the US dollar, the internationalization of the mark, the internationalization of the yen, and the birth of the euro.
1. The fundamental change in the international monetary system is the result of a great power game
The international monetary system is a vassal of the international order, and the establishment of this order is the result of the current international political game. Scholars of international political economy generally believe that the process of currency internationalization is first and foremost a political phenomenon, a process of competition, restriction and appropriation of international monetary power by various countries, and a confrontation and balance between state power (Andrews, 2006, Zhao Ke, 2012, Li Wei, 2012). The establishment and struggle for dominance of the international monetary system has been the goal of the game between major powers since its inception (Yu Zhonghua and Qi Dongzhi, 2012). The process of replacing the British pound as the dominant international reserve currency by the US dollar fully reflects the role of political factors. As Figure 4 shows, according to historical data compiled by Jordà et al. (2019), the United States surpassed the United Kingdom in real GDP and real private credit as early as the 1870s, and the total real trade surpassed that of the United Kingdom in the late 1930s, but the pound sterling dominated the international monetary system for a considerable period of time. It was not until the Bretton Woods system was established in 1944 that the US dollar began to rapidly replace the British pound as the dominant reserve currency. Plaschekhai (2011) pointed out that the Bretton Woods system, established in 1944, is a typical case of relying on institutions and politics to promote the reform of the international monetary system, and the Bretton Woods system is the result of the game between the United States and the United Kingdom. An important reason why the euro cannot replace the dollar is that the eurozone's inability to speak out in a unified voice on the international political arena affects people's confidence in the euro, and Europe's lack of military strength and dependence on the United States are also detrimental to the breakthrough of the euro's internationalization level (Posen, 2008, Randall and Schwartz, 2014).
In the evolution of the international reserve currency system, there is another example that fully demonstrates the role of political factors, and that is the collapse of the Soviet Union. Before the collapse of the Soviet Union in 1990, the share of the US dollar reserve currency had fallen to its lowest value since the collapse of the Bretton Woods system (50.6%). After the collapse of the Soviet Union, the bipolar confrontation pattern between the United States and the Soviet Union was broken, the situation of "one superpower and many powers" was formed, the depreciation trend of the US dollar reversed (Ilzetzki et al., 2019), and the international status of the US dollar was greatly improved (Dooley et al., 2003). McKinnon (2001) refers to the post-Bretton Woods system as the "Dollar Standard System" and Dooley et al. (2003) as the "Revived Bretton Woods System".
Military strength is an important guarantee for the international political game. Yang Ling (2017) conducted a study on the history of the internationalization of the British pound and found that the strong sea power of the United Kingdom provided a strong guarantee for the circulation of the British pound. The U.S. has also maintained the central position of the U.S. dollar through political-military alliances and overseas military presence (Pan Yingli, 2015). According to incomplete statistics, in 1967, the United States had more than 1,000 military bases in more than 100 countries (regions) around the world, with nearly one million troops and their families, accounting for one-quarter of the total number of US troops, and until now, the United States still has more than 400 military bases in more than 100 countries and regions around the world (Yan Bin, 2016).
2. Economic power is the basis of the great power game, and it has a long-term lag impact on the evolution of the international monetary system
The economic base determines the superstructure, and the long-term accumulation of the economic base can achieve a qualitative effect, so that a country can stand out in the great power game, and then trigger the transformation of the international reserve currency system. Among the factors influencing the evolution of the reserve monetary system, the so-called economic basis mainly refers to the total GDP and total trade, and the impact of these factors on the evolution of the international monetary system has a long-term lag (Huang Yiping, 2009). Judging from the general law, there is a time lag of about half a century between a country's acquisition of monetary hegemony and economic hegemony. As Figure 3 shows, the United States surpassed Britain in real GDP and real trade in the late 1870s and 1930s, respectively, but the structural change in the international monetary system took place in the mid-40s of the 20th century, when the real GDP and real trade of the United States were five and four times that of the United Kingdom. It was the continued growth of the United States' strong economic (and military) power that allowed the dollar to win the game against the pound and completely replace it. The fact that the internationalization of the yen has stagnated is also an important example. Since the early 1970s, Japan has become the world's second-largest economy and second-largest exporter of foreign trade, and the yen has gradually become a reserve currency, but the internationalization of the yen reversed in the 1990s. Although there are many reasons for the failure of the yen's internationalization, such as the deformity of the industrial structure leading to insufficient trade valuation (Xu Qiyuan and Li Jing, 2008) and the depreciation of the yen (Zhang Chengsi and Hu Zhiqiang, 2012), the fundamental reason is the bursting of Japan's bubble economy, which led to a sharp depreciation of the yen, hindered the confidence of the yen, and the share of the yen's reserve currency fell significantly, and then never returned to the level of the early 1990s. The change from the mark to the euro also shows the importance of economic power. The rise of the Mark is largely due to its strong economic strength and prudent monetary policy, while the gradual decline in the share of the euro's reserve currency after the financial crisis is inseparable from the weak economy of the eurozone.
The long-term accumulation of economic power is conducive to the formation of network externalities, which in turn promote the continued functioning of the international monetary system. Network externalities refer to the phenomenon in which the liquidity premium and transaction costs of using an international currency gradually decrease as the use of that currency increases, which in turn further promotes the level of currency internationalization (Flandreau and Jobst, 2009). The monetary network is built on the production network and the trade network, and the formation of the dollar network externality benefits from the accumulation of economic strength and the improvement of the industrial chain of the United States for a long time. Network externalities are the strength of international currencies, especially mature (incumbent) ones, and from a dynamic point of view, once a currency is established as the dominant currency, it is almost in a state of natural monopoly, forming a self-reinforcing dominance that allows the international monetary system to continue to function. Network externalities ensure the stability of the dollar system to a large extent. The share of US dollar reserves will fluctuate significantly with the emergence of the economic (financial) crisis, but after the crisis, the share of US dollar reserve currencies will increase significantly, whether it is the Asian financial crisis in 1997 or the international financial crisis in 2008, so as to ensure that the share of US dollar reserve currency has been dominant.
3. After the economic strength reaches a certain level, the role of financial factors in currency internationalization is further highlighted
The financial factors referred to in this article mainly refer to the level of financial development. Historical data show that the share of international reserves of the US dollar, the mark and the euro is significantly larger than the share of GDP, which is closely related to the level of financial development of the country (region) where the currency is issued. The empirical study of Bai Xiaoyan and Deng Mingming (2016) found that in the early stage of currency internationalization, economic strength and currency stability are the main contributors to currency internationalization, and the importance of financial market development in the medium term is highlighted. The role of financial factors in the evolution of reserve currencies is fully reflected. Jiang Jingjing and Sun Ke (2015) believe that the reason why the US dollar did not replace the pound sterling until after World War II is the poor stability and liquidity of the US financial market, while Zhang Ming (2021) pointed out that the main reason for the rise of the US dollar's international reserves after the international financial crisis is the developed financial market of the United States and the external demand for safe assets of US bonds. Ding Yibing (2016) shows that the failure of the yen's internationalization lies in its backward financial reform, Japan officially promoted the internationalization of the yen in 1984, but did not carry out domestic financial reform until 1993. Cooper (1999) argues that Europe's small, fragmented financial markets do not have a network externality comparable to that of the US dollar, and that the euro cannot surpass the US dollar for a long time.
4. Forecast of the development trend of the international reserve monetary system: 2023-2050
(1) Selection of variables, data, and models
In the early days of RMB internationalization, a number of literatures emerged in the academic community to predict the evolution of the international monetary system, but from the results, the prediction bias is large. Chinn and Frankel (2008) used indicators such as global GDP share, inflation, exchange rate changes and inertia to predict the share of international reserve currencies in the euro, which became the basic model for predicting the trend of international reserve currencies (hereinafter referred to as the C-F model). Chinn and Frankel (2008) predict that if all EU countries (including the United Kingdom) join the eurozone, the euro's share of international reserves will exceed that of the dollar by 2020. Subsequently, Chen (2007), Li Daokui, Liu Linlin (2008), Sun Haixia, Xie Lulu (2010), Shi Qiaorong (2011), Li Jianjun et al. (2013), and Lee (2014) all predicted the future share of RMB international reserves based on the C-F model, but the results were very different. Li Daokui and Liu Linlin (2008) show that under the assumption of full convertibility and the most optimistic forecast, the proportion of RMB reserves may reach nearly 20% by 2020, while Sun Haixia and Xie Lulu (2010) use the panel data regression method to predict that the proportion of RMB reserves in 2020 will be 8.5%, which is basically the same as that of the yen. Other forecasts are relatively low, among which Shi Qiaorong (2011) predicts that the proportion of RMB reserves in 2030 will be between 3.52% and 9.37%, ranking fourth in the world, and Li Jianjun et al. (2013) and Lee (2014) simulation results show that the proportion of RMB reserves will reach 10% (or more) in 2030, ranking third in the world. With the exception of Shi Qiaorong (2011), the above forecasts are generally optimistic.
In this paper, the predictors are identified from two aspects: empirical literature and historical experience. Empirical studies show that the C-F model is the basic model for predicting the change of the international monetary system (Chinn and Frankel, 2008), and economic fundamentals, monetary confidence, financial development level and network externalities are the basic factors for predicting the change of the international monetary system. Historical analysis shows that economic fundamentals, political and military strength, and financial factors play an important role in the development of international reserve currencies. Since political factors include value judgments and are difficult to measure accurately, this paper selects six indicators, namely GDP share, trade share, inflation, financial development level (measured by the proportion of private credit), capital account openness, and military strength share, as the basic indicators for predicting the share of international reserve currency, and examines the role of network externalities by adding explanatory variable lag.
The setting of the econometric model has an important impact on the prediction results. The addition of the lag of explanatory variables will reflect the effect of network externalities, but it will produce multicollinearity and affect the consistency of the estimation results. Although the improvement of goodness-of-fit is more important for the prediction model, because the goodness-of-fit is related to the accuracy of the prediction results in the model sample, in order to avoid this effect as much as possible and investigate the role of network externalities, this paper sets up multiple econometric models. In order to compare with the existing literature, this paper uses the current period value of the explanatory variable for prediction, i.e., model (1), and at the same time, this paper uses the lag period 1, lag 10 period, and lag 20 period of the explanatory variable, i.e., model (2)-model (4), and in addition, this paper also sets up a model that includes both current, 1, 10, and 20 periods, that is, model (5). Therefore, this paper argues that as the number of lag periods of the model increases, the prediction results of the model for incumbent international currencies such as the US dollar and the euro are larger, and the prediction results for emerging currencies such as RMB are smaller, that is, the value of RMB predicted by model (1) will be > > model (2) > model (3). Model (4). Considering that the main function of the logit transformation is to amplify the estimation results and find structural changes, and then it needs to be converted back to the original data, the logit transformation is not used in this paper. This paper assumes that all explanatory variables have a linear effect on the share of international reserve currencies. Prediction model (1) - model (5) are set as follows.
Sir represents the share of international reserve currencies, GDP, trade, inflation, credit, kaopen and me represent GDP share, trade share, inflation, financial development level, capital account openness and military strength respectively, and year represents the time trend term and random error term. Table 1 lists the variables. Considering the heterogeneity of individuals, this paper estimates and predicts the data of each currency separately.
The choice of estimation interval and currency has a significant impact on the forecast results. In terms of the estimated range, during the Bretton Woods system, the international reserve currency system experienced a strong conversion of the US dollar instead of the British pound, and the whole system was not stable, and after the collapse of the Bretton Woods system, the international reserve currency system has been in a relatively stable state. At this stage, except for the RMB, other currencies are in the mature stage of internationalization, so it is more accurate to choose the post-Bretton Woods period for prediction, and finally this paper uses the data from 1976 to 2021 to estimate, and the counterfactual simulation of the evolution of the international reserve currency system from 2022 to 2050. In terms of currency selection, there are currently eight international reserve currencies in the statistics: RMB, USD, EUR, JPY, Swiss franc, Canadian dollar and Australian dollar.
(2) Scenario analysis of the development trend of the international reserve currency system
1. Scenario setting
Considering the impact of the epidemic in 2020, this paper takes the average indicators of each economy from 2015 to 2019 as the benchmark, combined with the current development situation, sets the GDP growth rate, trade growth rate, inflation rate, private credit growth rate, military expenditure growth rate and capital account openness of each economy and the world, and further predicts the development trend of the international reserve currency system. In order to be more in line with, or more cover, the possible development of the continent in the future, the setting range of variables is relaxed as much as possible when setting different scenarios. According to the different future development of the mainland, the following three scenarios are set, and the specific indicators of each economy are set as shown in Table 2.
Scenario 1 (baseline scenario): The real GDP growth rate of the five countries and the world in 2022-2025 is based on the World Bank's projections, and the situation in 2026-2050 is based on the projections in this paper. Among them, from 2026 to 2030, the mainland will maintain an economic growth rate of 5%, a growth rate of 6%, 7% and 8% of the growth rate of trade, military expenditure and private credit, and then decline, and the growth rate of the mainland's economy, trade, military expenditure and private credit will remain at the level of 4%, 5%, 6% and 6% respectively from 2031 to 2050. Inflation on the mainland will remain at 2.5% from 2024 to 2050. This paper argues that capital account management has always been an important means for the mainland to resist external shocks, and that the mainland's capital account will adhere to the principle of orderly opening, and according to the ka-open index measured by Chinn and Ito (2006), the mainland is currently -1, while the other four international currencies are all 2. This paper assumes that the level of capital account opening in mainland China will be increased to 0 in 2026 and further increased to 1 by 2036, and will remain unchanged until 2050. Under this scenario, the share of mainland China's GDP will surpass that of the United States in 2034 and reach 31.16% by 2050, the share of mainland trade will surpass that of the United States in 2024 and reach 15.10% by 2050, and the share of private credit in mainland China will surpass that of the United States in 2021 and reach 53.20% by 2050.
Scenario 2 (optimistic scenario): According to the World Bank's forecast, from 2026 to 2050, the mainland will always maintain a real economic growth rate of 5.0%, and the growth rate of trade, military spending and private credit will always remain at the levels of 6%, 7% and 8%, and in this scenario, the mainland's GDP share will surpass that of the United States in 2033 and reach 41.56% by 2050. The share of mainland trade will surpass that of the United States in 2024 and reach 18.25% by 2050, and the share of mainland credit will surpass that of the United States in 2021 and reach 77.32% by 2050.
Scenario 3 (conservative scenario): Real GDP growth in 2022-2025 According to the World Bank's forecast, the mainland will maintain economic growth of 5% from 2026 to 2030, with trade growth, military spending growth and private credit growth of 6%, 7% and 8%, respectively, and then decline, and the growth rate of the mainland's economy, trade, private credit and military spending will remain at 3.5%, 4.5%, 4% and 5.5% respectively from 2031 to 2050. Under this scenario, the mainland's share of GDP will surpass that of the United States in 2043 and reach 26.28% by 2050, the share of mainland trade will surpass that of the United States in 2024 and reach 13.73% by 2050, and the share of private credit in mainland China will surpass that of the United States in 2021 and reach 36.35% by 2050
2. Analysis of forecast results
In this paper, the OLS estimation method is used to perform regression estimation of each currency data, and the estimation results of each model are shown in the annex. From the comparison of model (1)-model (4) and model (5), the goodness-of-fit of model (1)-model (4) was between 0.702-0.961, while the goodness-of-fit of model (5) was above 0.98. Since model (5) contains a lag period with more variables, although there is greater collinearity, the goodness of fit is higher and the intra-sample prediction results are better. In this paper, the out-of-sample projections are made based on the set scenarios, and the projections of the international reserve share in 2050 are shown in Table 3.
First, by 2050, the dollar-dominated international reserve currency system will be difficult to break, and network externalities are an important constraint. The projections in Table 3 show that the share of the US dollar in international reserve currencies will always exceed 46% in 2050, regardless of the model and scenario, and more than 50% in the baseline scenario. Comparing the different models, with the addition of a longer lag period, the forecast value of the US dollar's share of international reserve currencies is on the rise, and model (4) predicts that it will remain above 57% until 2050, while the forecast value of RMB shows a downward trend. This fully reflects the supporting role of network externalities in the dominant international currency, and the evolution of the international reserve currency system is slow under the influence of network externalities.
Second, by 2050, the international reserve currency system will be multipolar. Estimates from models (1) and (2) show that by 2050, the share of the five major currencies in international reserve currencies will remain basically stable, with the euro declining slightly and the renminbi and yen increasing slightly. Models (3)-(5) predict that by 2050, the international reserve currency system will show a trend of multipolarity, with the share of US dollar and euro reserves declining as a whole, while the share of British pound, Japanese yen and RMB will increase steadily. Model (5) shows that the share of the US dollar will decline the most, from 58.81% in 2021 to 46.60-53.31% in 2050, the share of RMB will increase the fastest, from 2.79% at the end of 2021 to 7.92-19.50% in 2050, and the share of the euro will decrease from 20.64% in 2021 to 16.21-18.55% in 2050.
Third, network externalities restrict the increase of the renminbi's share of international reserve currency, and it is difficult for the share of renminbi's international reserve currency to match China's economic strength in the short to medium term. Through the comparison of models (1)-(4), it is found that with the extension of the lag period, the predicted share of RMB international reserve currency is smaller, under model (1), the share of RMB international reserve currency will reach 6.41-8.63% in 2050, but under model (4), the share of RMB international reserve currency is even lower than the level in 2021. This further confirms the previous conjecture in this paper, indicating the important role of network externalities. Even under model (5), the share of RMB international reserve currency in 2050 is less than 20%, and Cao Tong and Zhao Ran (2014) refer to the core currency between 5-20% as the low-core currency, the 20-50% share as the medium core currency, and the more than 50% as the highly core currency. If the level of international reserve currencies is measured by this standard, even under the prediction of model (5), the renminbi will still not reach the level of moderate international reserve currencies by 2050. Currency internationalization has a strong inertia, and it is not appropriate for countries that are implementing currency internationalization to pursue excessive internationalization levels that match their economic strength in the short term.
Fourth, the evolution of China's economic, financial and military capabilities plays an important role in the evolution of the renminbi's status as an international reserve. For example, China's GDP growth rate from 2030 to 2050 ranges from 3% to 5%, and trade growth, credit growth and military growth are also between 3% and 6%, 4% and 4% respectively, covering more the possibility of future economic changes. For example, under model (1), the share of RMB reserves in 2050 is 8.63%, which is 1.35 times that of the conservative scenario (6.41%), while under model (3), the share of RMB reserve currency in the same period is 2.42 times that of the conservative scenario. It can be said that the setting of indicators such as different economic fundamentals, financial development levels, and military strength has an important impact on the internationalization of the RMB. In addition, under the baseline scenario, the mainland's share of GDP, trade, private credit, and military strength in 2050 is 1.43 times, 1.99 times, 2.14 times, and 2.05 times that of the United States, respectively, but the dollar still dominates. Drawing on historical experience, China's economy needs to continue to develop steadily for decades after surpassing the United States before the renminbi can reach a level that rivals the dollar. Therefore, only if China's economic strength, financial development level, and military strength maintain long-term sustained and stable growth, can we support the steady progress of RMB internationalization in the future.
5. Key conclusions and policy implications
(1) Main conclusions
After the outbreak of the Russia-Ukraine conflict, the financial sanctions imposed by the United States and the West on Russia have aroused strong concerns about the weaponization of the US dollar in emerging market economies, and the discussion on de-dollarization and the internationalization of local currencies has once again attracted the attention of the international community. Whether to internationalize the currency and whether to accelerate internationalization is not only related to the political and economic interests of an economy as a whole, but also has an important impact on every sector and individual within the economy. This paper argues that it is necessary to summarize the facts and lessons of the evolution of the international reserve currency system after World War II, and to analyze the evolution of the international reserve currency system in the next 30 years, and put forward a strategy for promoting currency internationalization.
The main conclusions of this study are as follows: First, in the process of the evolution of the international monetary system, one currency occupies an absolute dominance, or "one superpower and many powers" is the norm, and the fundamental change of the international monetary system is the result of the game of great powers, and behind the game of great powers is the long-term sustained growth of economic and military strength; financial factors are the factors that elevate the economy, and only on the basis of maintaining long-term and stable growth in economic fundamentals can the improvement of the level of financial development and financial openness help the international reserve currency to achieve a breakthrough. Second, the dominance of the US dollar will be difficult to break in the next 30 years, regardless of the baseline scenario, the share of US dollar international reserves predicted by various models will always exceed 50%, and network externalities play an important role in the stability of the international monetary system. Third, multipolarization is still the development trend of the international reserve currency system, and in the future, the share of the US dollar and the euro will decline, and the share of the RMB, British pound and other currencies (such as the Australian dollar, Canadian dollar, etc.) will increase. Among them, under various forecasting models and different scenario settings, the share of RMB as an international reserve currency has never exceeded 20%, and even less than 13% under the baseline scenario.
(2) Policy implications
The above conclusions give us important implications. First of all, at this stage, we should not blindly pursue the level of RMB internationalization that matches the scale of the economy. Historical experience and the empirical simulation results show that although economic power is always the most important factor, the fundamental changes in the international monetary system lag significantly behind the evolution of economic power. It can be said that the second largest economic strength in the world is only to get the ticket to become an international currency, and the real breakthrough in the level of currency internationalization is long-term and sustained stable economic growth. Formulating a strategy to promote the internationalization of the renminbi based solely on economic strength may have negative effects. In purchasing power parity terms, China surpassed the United States to become the world's largest economy in 2017. However, from the experience of international reserve currency changes, it is found that there may be a gap of 30-50 years between becoming the world's largest economy and realizing the leap in the level of currency internationalization, and China needs to maintain sustained and stable economic growth for at least the next 30 years, or even longer, before it is possible to grasp the opportunity in one fell swoop and realize the leap in the level of RMB internationalization.
Second, the internationalization of the renminbi should adhere to the principle of putting ourselves first. It should be clearly understood that the internationalization of the renminbi is the result of the improvement of the domestic economic and financial development level, not the goal. Therefore, the internationalization of the renminbi should focus on domestic interests, rather than internationalization for the sake of internationalization. The internationalization of the renminbi needs to meet many conditions, one of which is the opening of the capital account, but the capital account control is the most important means for the mainland to resist external shocks. More importantly, policy promotion has a limited effect on the internationalization of a country's currency, and relying on policy promotion often leads to face engineering and inflated data. Only by making China's economy and financial market bigger and stronger can we take advantage of external opportunities to promote the internationalization of the renminbi.
Finally, taking economic construction as the center and maintaining the steady development of economic fundamentals is still the core of current and future policies. In order to ensure the stability of economic fundamentals, we can start from the following two aspects: in the short term, we should adopt an expansionary fiscal policy to stimulate consumption and investment, strengthen coordination and cooperation with monetary policy, stabilize the expectations of households and the business sector, and enhance business confidence; in the medium and long term, we should smooth the domestic and international dual circulation through the reform of the domestic economic system and financial opening, and achieve new breakthroughs in the domestic economy in the course of reform and opening up. The breakthrough role of financial factors is based on the long-term stability of economic fundamentals. As long as the economy can grow steadily, the improvement of the level of financial development is a high probability event.
Note: References omitted