LONDON - It seems counterintuitive but cash-hoarding criminals can be depended upon to uphold the international monetary order, or so a new book maintains.
The vast quantity of $100 bills in hard currency held by drug dealers outside the United States is a key to America's global dominance, according to economist John Williamson.
The criminals' currency of choice is both a vote of confidence - because they choose dollars over euros, yen or Swiss francs - and an interest-free loan to the United States.
It's a point Williamson and others bring home in "The Power of Currencies and Currencies of Power", a collection of essays edited by former Reuters global economics correspondent Alan Wheatley that shows how the world's currencies work to reinforce the geopolitical pecking order.
Crime is not the only key. Anyone assuming China's renminbi is poised to snatch the dollar's pre-eminent position may find the book a practical guide on how China could become top dog.
Around 60 percent of all dollar bills circulate outside the United States, Wheatley says. In the same way as American Express profits whenever people hold its travellers' cheques, the United States makes money when foreigners hold dollars on which no interest is paid.
By that token, in 2003 Saddam Hussein indirectly paid for the cost of his own invasion by the United States. The more than 100 aluminium boxes filled with $700 million in cash that invading U.S. forces found in his palace had been paid for with the proceeds of Iraqi oil exports.
Wheatley discussed the book with Reuters:
Q: When you were editing the book, what did you find most surprising?
A: Not being a student of economic history, it was an eye-opener to be able to pinpoint so many examples down the ages of how the power of a country's currency in particular - not its all-round military and political strength - has been decisive.
One reason France lost the Peninsula War (1808-1814) to Britain and its allies is that Wellington's armies could pay for supplies with Bank of England notes. Napoleon's credit wasn't as good and so he had to rely on gold.
A more recent example is how the U.S. paved the way for the invasion of Afghanistan by buying the allegiance of local warlords with wads of $100 bills. It's this capacity to mobilise resources in an emergency that defines a major reserve currency such as the dollar.
Q: What implications might that have for foreign exchange strategists?
A: Many FX strategists are advising reserve managers to diversify - the Australian and Canadian dollars have been big beneficiaries in recent years - and that seems sensible. As economic power shifts from West to East, you'd expect the dollar's dominance to be eroded gradually.
An interesting chapter looks at whether the need for FX stability in global supply chains will lead to the emergence of some currencies as regional champions.
But the book also reckons that some of the speculation about the RMB (renminbi) catching up to the dollar as a reserve currency within a decade or so is fanciful. For a start, there's just so much inertia built into the system. And the trust and credibility that underpin a reserve currency's function as a store of value - and that's critical - takes decades to develop.
Q: And in geopolitical terms?
A: The lessons of history are clear. The currencies of big countries take on a greater international role as their economies grow. And countries like to use that power. I mean power in its broad sense. It could be using the currency to coerce another country - the U.S. forced Britain to retreat from Suez in 1956 by threatening to trigger a sterling crisis - or it could be exercising influence more subtly.
Now, imagine if China gradually conducts more trade with oil and commodity producers in RMB. That would give China more leverage over those countries - if, say, they got into financial trouble one day, and had a choice between turning to China for help or to the IMF. Like it or not, the IMF is often seen as a U.S. proxy. So you can see the potential for geopolitical strains to build up as a result of currency developments. A way will have to be found of accommodating China's rise. That's as true in monetary matters as it is in the military and diplomatic fields.
Q: The book makes clear how the U.S. used not just the dollar, but also its control of the global financial infrastructure, to maximise the impact of sanctions against Iran. Is that something it could still do today?
A: In fact the book argues that the very reason sanctions against Iran have been so effective is thanks to the dollar. Because all dollar payments ultimately are cleared through New York, any bank found to be trading with Iran could be threatened with losing their U.S. licence - a death threat to most banks.
I see these sanctions as the 21st-century equivalent of gunboat diplomacy.
Iran was forced to negotiate not because warships were pointing their gun barrels in its direction but because of the dollar. And yes, absolutely, any other country under international sanctions could come under the same pressure.
Q: What most useful insights do you think the book gives into China's strategy on the global stage?
A: China reckons the present international monetary system is past its sell-by date. So China needed to start carving out an international role for the RMB if it wanted more say in how the system should involve. And they've been phenomenally successful.
After just four years something like 15 percent of China's trade is already settled in RMB. But if the RMB is to become a serious reserve currency, central banks have to be able to move their money in and out of China as they please and invest it in large volumes in Chinese bonds. That means letting market forces - more or less - determine exchange rate and interest rates.
The Chinese know that, but I just don't see how the Communist Party will be willing to give up that much control over the economy because that is what underpins its monopoly of political power.
Q: Anything that you think the book left out?
A: I would have liked to explore more deeply what would happen if China persuaded Middle East and African oil producers to take payment for their oil in RMB rather than dollars.
"The Power of Currencies and Currencies of Power", edited by Alan Wheatley, is published by the International Institute for Strategic Studies.