On the Welfare Benefits of an International Currency

39 Pages Posted: 29 Nov 2006

See all articles by Prakash Kannan

Prakash Kannan

International Monetary Fund (IMF)

Multiple version iconThere are 2 versions of this paper

Date Written: October 2006

Abstract

Is it beneficial for a country's currency to be used internationally? And, if so, can we quantify the benefit? Over the last 60 years or so, the US dollar has held the dominant position as the main medium of exchange in international transactions - i.e., as international money. Since the emergence of the euro as a viable alternative international currency, there has been great interest in the consequences of a transfer of the dollar's premier international role to the euro. Building on recent advancements in the literature on search models of money, this paper presents a novel model-based approach towards assessing the welfare benefits associated with the international use of a country's currency. Apart from the usual benefits associated with seignorage, the model highlights a new channel that operates through the terms of trade. In the calibration exercise carried out in this paper, the benefits originating from this new channel is of an order of magnitude higher than the benefits that accrue due to seignorage. The welfare loss for the US in moving from an equilibrium where the dollar is the dominant international currency to an equilibrium where the euro takes on this role ranges from 1.8% to 3.0% of annual consumption depending on relative inflation rates.

Keywords: International Currency, Search models of money

JEL Classification: E40, F33

Suggested Citation

Kannan, Prakash, On the Welfare Benefits of an International Currency (October 2006). Available at SSRN: https://ssrn.com/abstract=947978 or http://dx.doi.org/10.2139/ssrn.947978

Prakash Kannan (Contact Author)

International Monetary Fund (IMF) ( email )

700 19th Street NW
Washington, DC 20431
United States
(202)623-8806 (Phone)

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