By accumulating considerable dollar reserves in order to peg their currencies, the Asian central banks financed about two-thirds of the us current account deficit over the first three quarters of 2003. Is their behaviour likely to change? Neither the financial costs of accumulating reserves nor the economic objectives of these countries suggest they will. On the contrary, breaking currency pegs with the dollar would entail significant risks due to plummeting values of forex reserves, with the appreciation of local currencies. But the accumulation of us external deficits cannot go on forever. Adjustment will have to take place. The danger is that such adjustment may follow a speculative attack against the dollar that the Asian central banks would not be able to resist, leading to a widespread recession. Coordinated interventions by central banks in the forex markets, supported by a G7 meeting, could prevent this a scenario from unfolding. But such a concerted move could only have a sustainable impact if it were accompanied by significant changes in monetary and fiscal policies, both in the United States and in Europe.
key currencies; dollar; central bank; monetary policy; foreign exchange markets
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