The Reserve Center

In principle, there are two ways in which this social saving may be distributed.

If the fiduciary reserve is produced under conditions of total monopoly, with no interest paid on reserve holdings, then the saving would accrue entirely to the issuer of the asset.

If, on the other hand, the issuer is confronted by competition from other sources of reserves.

Then, his net gain would be correspondingly reduced, since he would be obliged to pay a rate of interest on his liabilities in order to induce others to retain their holdings.

Part of the social saving would the accrue to holders in the form of such interest payments.

Indeed, the greater the competition from other sources, the higher the interest rate would have to be.

At the extreme, where the fiat reserve is produced under conditions approximating perfect competition and free entry, no significant gain at all would be expected to accrue, on a net basis, to the issuer.

Asset holders, rather than the issuer, would receive the full benefit of the social saving.

With a reserve-currency standard, the fiduciary reserve would by definition be produced under conditions of total monopoly.

Like the central bank within any national monetary system, the single state whose national currency performed the functions of international liquidity would therefore receive the full benefit of the social saving (the monopoly 'rents'), as well as the associated gains of prestige and decision-making authority.

The seigniorage benefit takes the form of a greater cumulative deficit in the country's balance of payments than would otherwise be possible.

In effect, a kind of 'free' command over foreign goods, services, and assets--- owing to the willingness of other states to accumulate the reserve center's currency as reserves.

The center would be able to finance deficits simply by issuing liabilities (for example, by liability financing) rather than by giving up reserves (asset financing).

The gain of decision-making authority consists of the greater inflexibility and latitude (autonomy) in dealing with stochastic payments disequilibria afforded by this ability to liability-finance deficits.

Additional income gains also would accrue specifically to the financial sector of the reserve center, insofar as domestic banks and other financial institutions had an effective monopoly over both the issue of monetary liabilities denominated in local currency and the exchange market for the currency.

These gains have been called 'private' or 'denomination' seigniorage.

They take the form of extra earnings from foreign exchange transactions, investment services, and other ancillary financial and commercial activities attributable to the international use of the national currency.

With a multiple-reserve currency standard, many of these gains would be reduced by competition from alternative centers, and would be enjoyed instead by the holders of international reserves.

Not only would reserve centers have to pay higher interest rates than otherwise, but competition among their financial sectors would also compress the private seigniorage gains attributable to the international currencies.

Worse, the center's advantage of flexibility in dealing with stochastic payments disequilibria would be partially or wholly offset by a policy constraint resulting from the threat of reduction or withdrawal of past accumulations of their liabilities.

This threat of the so-called 'overhang' of liabilities could seriously impinge on an individual reserve center's ability to use expenditure-changing or expenditure-switching policies to maintain internal or external balance.