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Why are some countries moving toward dollarization or regional currencies like the Euro?

Why are some countries moving toward dollarization or regional currencies like the Euro? What is the impact of regional currencies on global business?

What are the future trends of globalization? How will changes in globalization impact you and your organization?

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Why are some countries moving toward dollarization or regional currencies like the Euro? What is the impact of regional currencies on global business?

The term dollarization is shorthand for the use of any foreign currency by another country. Most developing countries?as well as transitional economies just adopting market mechanisms?already have a limited, unofficial form of dollarization. To a greater or lesser degree, their residents already hold foreign currency and foreign currency-denominated deposits at domestic banks. In high inflation countries, dollars or some other hard currency may be in widespread use in daily transactions, alongside the local currency.

Some countries are moving toward dollarization as a response to economic instability and high inflation, and the desire of residents to diversify and protect their assets from the risks of devaluation of their own currencies. It is useful to distinguish between two motives for the demand for foreign currency assets: currency substitution and asset substitution. In currency substitution foreign assets are used as money, essentially as means of payment and unit of account, and it typically arises under conditions of high inflation or hyperinflation when the high cost of using domestic currency for transactions prompts the public to look for available alternatives.

A powerful but still longer-term argument for full, legal dollarization is that it makes economic integration easier with the rest of the world, and insulation of the domestic financial system correspondingly more difficult. Dollarization may establish a firm basis for a sound financial sector, and thus promote strong and steady economic growth. The argument here is that dollarization is perceived as an irreversible institutional change toward low inflation, fiscal responsibility, and transparency.
Furthermore, dollarization may contribute to greater economic integration than otherwise would be possible with the United States, or any other country whose currency is adopted.

Dollarization could also bring about a closer integration in financial markets. One of the most profound effects of Panama's dollarization is the close integration of its banking system with that of the United States and indeed with the rest of the world, particularly since a major liberalization in 1969-70.

The main pros and cons of dollarization/globalization are as follows:
Advantages
- Dollarization avoids currency and balance of payments crises. Without a domestic currency there is no possibility of a sharp depreciation, or of sudden capital outflows motivated by fears of devaluation.
- A closer integration with both the global and U. S. economies would follow from lower transaction costs and an assured stability of prices in dollar terms.
- By definitively rejecting the possibility of inflationary finance through dollarization, countries might also strengthen their financial institutions and create positive sentiment toward investment, both domestic and international.

Disadvantages
- Countries are likely to be reluctant to abandon their own currencies, symbols of their nationhood, particularly in favor of those of other nations. As a practical matter, political resistance is nearly certain, and likely to be strong.
- From an economic point of view, the right to issue a country's currency provides its government with seigniorage revenues, which show up as central bank profits and are transferred to the government. They would be lost to dollarizing countries and gained by the United States unless it agreed to share them.
- A dollarizing country would relinquish any possibility of having an autonomous monetary and exchange rate policy, including the use of central bank credit to provide liquidity support to its banking system in emergencies.

What are the future trends of globalization?

The future trends of globalization are quite significant. In general, globalization unleashes competition and accelerates the forces of creative destruction, as said by the great economist Joseph Schumpeter. A country adopting a foreign currency as legal tender sacrifices its seigniorage, the profits accruing to the monetary authority from its right to issue currency. The immediate cost of this issuance can be significant, and it continues on an annual basis thereafter.

Dollarization involves two kinds of seigniorage loss. The first is the immediate "stock" cost: as the dollar is introduced and the domestic currency withdrawn from circulation, the monetary authorities must buy back the stock of domestic currency held by the public and banks, effectively returning to them the seigniorage that had accrued over time. Second, the monetary authorities would give up ...

Solution Summary

This solution of 2,838 words explains why some countries are moving towards dollarization or regional countries like the Euro such as economic integration, lower inflation, protection of assets and others. It also looks at the impact of regional currencies on global business and the future trends of globalization such as competition and seigniorage.

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