US Currency and the Trade Deficit

If the Federal Reserve’s estimates of the quantity of currency held overseas is accurate, I’m starting to think we are ignoring one of our key exports whenever we tally the balance of trade.  That “export” would be a portion our currency itself. 

That condition, combined with the “dark matter” theory I mentioned a while back, would mean we have an even bigger trade surplus than we’d though. 

The estimates from this paper by the Cleveland Fed, and this paper from the Federal Reserve Bulletin (both from the mid-90s) imply a significant overseas demand for the Federal Reserve Note.  (A newer study would be nice to have, but I couldn’t find one.)

Researchers at the Federal Reserve Board have examined this issue in depth. A preliminary study conducted in 1993 estimated that more than 70 percent of all U.S. currency is held outside our borders, with most of the outflows occurring since 1970. Recently, a broader examination set that figure at between 50 and 70 percent, with about 80 percent of all currency growth since 1980 tied to increased foreign demand.

Click to enlarge.

Why does acquiring and holding onto our hundred-dollar bill seem to be more important to many foreigners than using it to acquire our real goods and services? 

In contrast to domestic demand, foreign demand for the U.S. dollar owes more to the store-of-value quality of money. The dollar is preferred to many other currencies because it is a relatively stable source of purchasing power, widely accepted, and reasonably secure from counterfeiting.

And if it’s the hundred dollar bills they really want, and will trade cars and iPods to acquire, why isn’t at least that portion of our currency growth counted as an “export”?  [Never mind, I already know why: it’s difficult or impossible to quantify, so we don’t even try on a systematic basis.]

In any case, the foreign demand for our currency is undoubtedly a nontrivial reason why interest rates and inflation rates have stayed well under control, in spite of the officially-calculated trade “deficit.”  Those little pieces of paper are viewed as better than gold. 

Comments

[William Woody]

I wonder if the reason why, despite having a weak economy and high unemployment, Europe's Euro is relatively strong compared to the U.S. Dollar because in the past few years foreign investors have been shifting their purchase patterns to augment their Dollar portfolio with Euros? There doesn't seem to be a good reason for the relative strength of the Euro compared to the Dollar, except that foreign investors may be using the Euro to diversify the risk in their portfolios to hedge against the potential of a weak Dollar.