Not So Happy New Year: euro to Replace Dollar as World Currency

Euro gains on dollar in official reserves

By Ralph Atkins in Frankfurt

http://www.ft.com/cms/s/0/e72dfbfa-b71d-11dc-aa38-0000779fd2ac.html?nclick_check=1

Published: December 30 2007 22:01 | Last updated: December 30 2007 22:01

The euro has fast gained ground against the dollar in international official foreign exchange reserves in recent months, according to official statistics highlighting the nine-year-old currency’s growing global importance.

Reflecting its increasing strength on foreign exchange markets, the euro’s share of known foreign exchange holdings rose to 26.4 per cent in the third quarter of this year, the International Monetary Fund reported late on Friday. That was up from 25.5 per cent in the previous three months and from 24.4 per cent in the third quarter of 2006.

The dollar’s share of known official foreign reserves, calculated in dollar terms, fell to 63.8 per cent in the third quarter, down from 66.5 per cent in the same three months of 2006.

The euro’s rise will strengthen European policymakers’ conviction that the newer currency is maturing into a significant rival to the dollar.

However, the European Commission stressed that inertia and the incumbency advantages enjoyed by the dollar meant any change in the relative status of the currencies would take place only slowly.

The international role of the euro would depend on portfolio diversification by central banks and the pace at which eurozone financial markets developed, the Commission said in its December eurozone economic update. Eventual UK membership of the eurozone “would boost the importance of the euro area as a global financial hub”.

The period covered by the latest IMF figures included the eruption of the US subprime mortgage crisis and the financial market turmoil. Since then the euro has risen sharply against the dollar, in part driven by speculation that the world’s central banks might cut links to the weakening dollar and switch to its younger rival.

In the past year, the value of euro notes in circulation exceeded the value of dollar bills. The euro has also overtaken the dollar as the main denomination of international debt issues.

The euro’s role in official foreign exchange reserves is most pronounced in countries geographically close to the eurozone and in countries with institutional links to the EU.

But the Commission report cited empirical studies highlighting the increasing “gravitational pull” of the euro on foreign exchange markets, which was becoming “more important for certain emerging market currencies, notably in South America”.

Copyright The Financial Times Limited 2007