Could the Euro and Dollar Share Reserve Currency Status?

The conventional view of a reserve currency for the world is that there can only be one at any time. Before World War II, it was the pound, since then it's been the dollar, and pretty soon it'll be the euro.

As of 2006, roughly 65 percent of reserves held by foreign central banks were in dollars and 25 percent in euros. Harvard's Jeffrey Frankel and University of Wisconsin's Menzie Chinn think the euro could surpass the dollar by 2015.

But a problem with the one currency view is that there's never been great data on foreign reserve holdings prior to 1940. Now, Barry Eichengreen of UC Berkeley and Marc Flandreau of the National Political Science Foundation in France have dug central bank records from 17 countries covering 80 percent of global foreign exchange reserves for the period circa 1920-1939, a time during which it was assumed the pound was still the world's dominant reserve currency.

What they found was that the dollar surpassed the pound in the mid-1920's, but then the greenback lost its dominant position in the 1930's because of disastrous mismanagement of the US economy, the pair wrote in an April FT column.

What this means for today's world, argue the authors, is that unless the U.S. mismanages the economy again in the face of a falling dollar and credit problems, it's likely that the euro and dollar will share reserve currency status. And this would seem to make sense: why would foreign central banks want to put all of their eggs in one basket?

For his part, Frankel agrees with this view.

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