The Dollar, the Euro and Exchange Rate Regimes in Latin America. Jean Monnet/Robert Schuman Paper Series, Vol. 1 No. 10, November 2002

Miotti, Luis and Plihon, Dominique and Quenan, Carlos. (2002) The Dollar, the Euro and Exchange Rate Regimes in Latin America. Jean Monnet/Robert Schuman Paper Series, Vol. 1 No. 10, November 2002. [Working Paper]

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Abstract

The creation of the euro on January 1st 1999 was one of the major economic events of the end of the 20th century. Completing a lengthy process of economic integration, the emergence of the European Monetary Union is likely to produce significant transformations in international monetary and financial relationships. This view is based on the economic weight of the euro zone, similar to the weight of the United States, and on the desire of the monetary authorities not to restrain the internationalisation process of the new European currency. However, monetary history shows that the process of birth and decline of international currencies is very slow and subject to important inertia. This inertia is particularly important for the functions of medium of exchange and store of value. The two first years of existence of the euro confirm this view. They also seem to give some credit to the analyses, proposed before the creation of euro, which mentioned the possibility of an important role of the euro with respect to financial operations. These approaches also stressed the idea that the evolution of the international monetary system is related to the choice that will be made with respect to indebtment and investment currencies. In this respect, the significant growth of international bond issues in euro during the last two years is a very important fact. Latin America actively participated in the growth of the international euro bond market. This led us to study the long-term implications of this process of intensification of the financial relationships between Europe and Latin America, with a particular focus on exchange rate regimes. As a matter of fact, we explore one aspect which has not been addressed much in recent studies on the euro and Latin America: the link between the emergence of the euro and the function of unit of account. This function is not limited to the denomination of international trade; it also deals with the use of international currencies as anchors for monetary policy. The euro already plays the role of an anchor (alone or in baskets) for about 50 countries. This concerns first African countries, but also a great number of Eastern European countries, some of which are candidates for future admission in the euro zone. One may foresee the existence of a duopoly, less and less asymmetry with respect to international currencies, with an increasing proportion of developing country currencies pegged on the euro and/or the dollar. One interesting question is whether the euro is likely to be used for pegging local currencies in countries that are already strongly dollarised. This paper draws upon a study sponsored by ECLAC on “The Euro and Financial Relations between Latin America and Europe: Medium- and Long-Term Implications.”1 The paper starts with a survey of recent debates on possible evolutions of the international monetary system (IMS) in the medium to long run as a result of the creation of the euro. The central part of our study deals with a theoretical and empirical analysis of the determinants of de facto monetary pegging, as opposed to de jure exchange rate regimes published by the IMF. We present an econometrical analysis of the determinants of de facto exchange rate regimes of 93 countries. We put a specific emphasis on Latin American countries.

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