What
Is Dollarization?
Dollarization occurs when countries officially give up
their own currency and use the dollar instead. The president
of Argentina is already working to dollarize. Arguments
for and against dollarization in Mexico are often in the
newspapers there. This year's meetings of the Canadian
Economics Association featured a very heated debate over
the virtues of Canada's adoption of the U.S. dollar. |
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The megadevaluations,
banking crises and continent-jumping financial contagions of the
past two years have sent policymakers searching for monetary programs
to insulate their countries from such problems. The dollarization
option is getting significant attention. Why are countries considering
dollarization, and how would it affect the United States?
From the
Dollarizing Country's Point of View
Supporters say dollarization is one way of avoiding the kind of
capital outflows that take place in anticipation of a currency crash.
Dollarization ties policymakers' hands so they don't run up a fiscal
deficit they can't or won't pay for except by inflationary financing.
Dollarization also keeps investors from thinking other investors
might have such fears.
When a country
officially dollarizes, it uses only U.S. currency and phases out
its own. The central bank buys back its currency with dollar reserves.
An accounting entry changes bank accounts to dollar accounts. Loans
are transformed to dollar-denominated debt, perhaps at different
interest rates.
Unofficial or
partial official dollarization has already occurred in many countries.
Dollar bank accounts' share of all bank accounts is 65 percent in
Argentina, 85 percent in Peru and 75 percent in Uruguay. Although
Mexico does not permit dollar accounts except for exporters, there
is much evidence of widespread dollar usage in that country.
If Argentina
does fully dollarize, it will not be the first country to do so.
Several countries are already officially dollarized (Chart 1). Some
of these are U.S. possessions or territories, such as Guam, the
Northern Marianas, Puerto Rico, the U.S. Virgin Islands and American
Samoa. Others, such as the Marshall Islands, Micronesia, Palau and
Panama, are independent. The rest are British dependencies.
Chart
1: Who Has Dollarized?
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From the
U.S. Point of View
For the United States, dollarization means foreigners will demand
even more dollars than the large amounts they use now. The United
States would have to print more money to meet the increased demand
but would benefit from the increased seigniorage. Seigniorage is
the profit a government makes from printing money. For example,
it costs three cents to print a $100 bill, but that bill buys $100
worth of goods. When they dollarize, countries allow the United
States to earn seigniorage in these countries instead of earning
seigniorage for themselves by issuing their own money.
Conclusion
Simply speaking, dollarization is one way for countries to establish
fiscal and monetary credibility, hold down inflation and probably
lower interest rates. But dollarization has costs, including the
sacrifice of seigniorage and the government's role as lender of
last resort to a troubled banking system.
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William
C. Gruben is the director of the Center for Latin American
Economics and a vice president at the Federal Reserve
Bank of Dallas.
SUGGESTED
CITATION:
Gruben,
William C. (2000), "Dollarization: The Greenback
Goes Global," Federal Reserve Bank of Dallas Expand
Your Insight, March 1, http://www.dallasfed.org/eyi/money/0003.html
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