Introducing the Alternative SDR2

Economics, Premium POM

The Parallel Potential of an SDR1 and SDR2 (Plan B)

By JC Collins

With so much political disagreement on the 2010 IMF Quota and Governance Reforms, as well as the convertibility of the Chinese renminbi and its inclusion into the Special Drawing Right basket, the Plan B monetary reforms are high on the agenda over the next few months.

Plan B action is meant to be implemented by December 15th of this year.  That leaves very little time for some of the more complex and political issues surrounding the monetary reforms to be worked out.  With the geopolitical stress points beginning to show signs of settling down in somewhat of a stalemate position in both Ukraine and Syria, we can expect that some alternative course of action will be taken in regards to both the 2010 Reforms and the inclusion of the renminbi into the existing SDR composition.

The eventual evolution of the Chiang Mai Initiative Multilateral will act as an Asian Monetary Fund, which will be the micro subservient institution to the International Monetary Fund.  The post Meet the Asian Monetary Fund explains the relationship and probability of such an institution emerging in the foreseeable future.

The ASEAN Economic Union (AEC) trade agreement which comes into effect on January 1, 2016, will require a basket of currencies to use as a regional multilateral unit of account.  We have speculated here that the Chinese yuan could be used in the interim as the unit of account used to balance trade between AEC members.

But we have also speculated that East Asia could see the emergence of an Asian Currency Unit (ACU) which will be utilized in this capacity.

There is a very real possibility that an agreement on the RMB being included in the existing SDR will include the development of an alternative SDR2 which will run parallel to the SDR1.  The existing SDR1 basket, which included the USD, pound, yen, and euro, will continue for another 5 years.

This would allow for the SDR2 to function as a separate unit of account with the yuan and other currencies determining its weight.  A recent Fortune article (which slipped mostly under the radar) best explains this relationship:

“Alternatively, the IMF could cut the Gordian Knot with a mechanism to decide changes in the basket of currencies by having an SDR1, which maintains the old basket, perhaps with changes in the percentages based on some criteria, and an SDR2, which includes some new currency(ies). The first SDR2 basket would contain the yuan. These baskets can run parallel for a set period of time. Based on the preferences of countries using SDR’s, SDR2 would, if better than SDR1, replace SDR1 de facto.”

“At the next periodic evaluation, the more popular of SDR1 and SDR2 would then become SDR1 and the environment of the day would determine if a new SDR2 be created. Such a mechanism would take the politics out of reserve currency determination and let the market decide the basket. The current geopolitical maneuvering to enhance or diminish the prestige and economic power of one country in favor of another would not enter the equation. The IMF ought to be as apolitical as possible, and a reform of the SDR is an obvious step in that direction.”

The statement on cutting the Gordian Knot is a reference to the Plan B monetary reforms and methods of bypassing the United States.  The creation of an Asian Monetary Fund, as previously described, would support concept of an SDR2 composition, whether it’s weighted with only the renminbi, or a group of currencies, such as those of the BRICS countries.

In the other post today we discussed the reality of Asian currencies appreciating together against the USD.  The SDR2 and Asian Monetary Fund would also support this regional appreciation.

Big movements are beginning to happen internationally.  The end results of the geopolitical challenges and the methods of bypassing US monetary hegemony could very well force the development of a separate and parallel SDR2 which will function as the unit for account for the AMF and AEC trade agreement.

This area will require more research and analysis before further conclusions can be made.  It is also just as probable that the RMB will be included in the existing SDR as previously discussed and planned.  But the delays on the American side of things could force the SDR2 issue, which would act as a way of eliminating and reducing the western efforts to prevent monetary reform and a loss of hegemony.  – JC