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13.8 INTERNATIONAL CURRENCIES

We noted in section 13.6thatthe dollar performs the role of an
acteristic of the world economy. International
international
currency. In this section, we briefly look at the consequences of this
char-
roles as national currency but also are used currencies perform the Same
Table 13.6presents awidely accepted typology. outside the country of orioin
Internationalcurrencies act as a medium of exchange just as a national
currency would, but on alarger scale. T'hese are the so-called vehicle cur
rencies that facilitate currency exchanges. If
for example, the Bhutan ngultrum into the businesses need to exchange.
is in the middle and two exchanges take Rwandan franc, the US dollar
that exchanges both currencies directly. Soplace because there is no market
the ngultrumn is exchanged into
dollars, and dollars into francs. The US dollar is the main currency in this
respect. According to the Bank of International Settlements (BIS, 2019), 88%
of all trades in April 2019 involved the US dollar.
Closely related to this
function is that these currencies are a safe store of value in unstable local
markets. It protects private actors against extreme inflation, and the trust in
the US governmentcan be higher than that in alocal
government.
In financial markets, there is a home-market effect, which means that
investors have a bias in favour of investments in the home-nmarket currency.
For international currencies, this is different. US firms even if they are
small can easily borrow money from foreign investors because
foreign
investors have little difficulty lending in US dollars. This gives US borrow
ers an advantage that firms in other countries - for example, developing
countries with a less developed financial market - do not have. This is partly
an explanation of one of the Obstfeld and Rogoff (2000) puzzles.
The special position of international currencies and in particular of
theUS dollar is also reflected in the denomination of securities and invoice
share of these international currencies. Gopinath (2016) documents that for
many countries alarge share of imports and exports is denominated by
theÚS dollar. If trade is denominated by a particular currency, traders can
reduce the exchange rate risk by also holding funds and securities in the
same currency.

TABLE 13.6 Functions of international currencies

Sector Functions

Medium of exchange Store of value Unit of accoun!

Nominal securities Denomination ot
Private sector Vehicle currency
Liquidand safe issuance securities
aset mnarkets Banking and cash Trade invoicing
hoarding
Intervention Reserves Exchange rate peg
Official sector
currency
Lender of last resort

SOure Gourintias, Key, ant auzt (2019)