Opinion
The Dollar is Now Everyone's Problem
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All of this leads us to conclude that there is a second dollar-based financial system in which firms – mostly financial institutions – have issued dollar liabilities of more than $15 trillion.
By Kim Schoenholtz and Stephen Cecchetti
The global financial crisis started in 2007 when European banks came under increasing strain. If forced to specify the crisis kickoff, we would pick Thursday, August 9, the day that BNP Paribas halted redemptions from three investment funds because it couldn’t value their holdings of U.S. mortgages. Responding to the ensuing market scramble for liquidity, the ECB injected €95 billion that day into the European banking system and the Federal Reserve put $24 billion in theirs. Today, with the benefit of hindsight, these numbers appear quaint, but then they seemed enormous. (You can find a contemporary account by one of us here.)
With time we learned that banks in Europe and elsewhere outside the United States had been borrowing a large volume of dollars in short-term money markets and investing in U.S. mortgage-backed securities. As the mortgages started to default and the securities lost value, the non-U.S. banks had trouble rolling over their short-term debt. Researchers eventually estimated the dollar shortfall to be well over $1 trillion!
That significant parts of the global financial system are running on dollars is no surprise. We discussed some of the basics – the fact that the dollar accounts for 80% of trade finance and 87% of foreign currency market transactions – in an earlier post on the reserve currencies. But there is more, much more.
Read full article as published in Money and Banking
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Kim Schoenholtz is a Professor of Management Practice and Director of the Center for Global Economy and Business.
With time we learned that banks in Europe and elsewhere outside the United States had been borrowing a large volume of dollars in short-term money markets and investing in U.S. mortgage-backed securities. As the mortgages started to default and the securities lost value, the non-U.S. banks had trouble rolling over their short-term debt. Researchers eventually estimated the dollar shortfall to be well over $1 trillion!
That significant parts of the global financial system are running on dollars is no surprise. We discussed some of the basics – the fact that the dollar accounts for 80% of trade finance and 87% of foreign currency market transactions – in an earlier post on the reserve currencies. But there is more, much more.
Read full article as published in Money and Banking
___
Kim Schoenholtz is a Professor of Management Practice and Director of the Center for Global Economy and Business.