Myths and scams

A year ago, rumors abounded regarding central bank reserve diversification out of the U.S. dollar and into the Euro. It was one of the major factors propelling the dollar downward in the fourth quarter to a record low of 1.3667 against the Euro on Dec. 30, 2004.

The problem is, it wasn’t true. In late September, the IMF reported the dollar’s share of reserve holdings was stable as of year-end 2004 at 65.9 percent of total world reserves, which total about $3.7 trillion. This was up from the year before, not down.

While some emerging market countries such as South Korea say they are reducing their share of dollars, others are sticking to the buck. Japan, for example, is the world’s largest holder of currency reserves at $840 billion, up $170 billion over the past year. Japan puts nearly all of it into dollar denominated assets, and government officials periodically affirm they do not intend to change the composition of their reserves.

China has been reporting since 2002 that it has been reducing dollar holdings from 90 percent of total reserves to about 60 percent today, while Russia, South Korea, and Taiwan have also reduced their proportional share of dollars.

Was this a sufficient reason to drive the dollar down to a record low? The total amount of dollars for sale from reserves was probably less than $1 trillion — and this in a market that routinely processes $1.5 to $2 trillion per day. In this light, it looks like “reserve diversification” was — and is — an unfounded scare tactic the market chose to accept uncritically as a trigger for anti-dollar hysteria.