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Can Dollarisation save an Economy


Why is it in the news?

  • Argentina, grappling with severe inflation and widespread poverty, contemplates a crucial economic shift.
  • The newly elected President vows to replace the Argentine Peso with the U.S. Dollar, viewing dollarisation as a potential remedy. However, immediate implementation faces hurdles due to the scarcity of dollar reserves in Argentina.

 

Benefits of Dollarisation

Stabilizing Inflation: Introduces a stable currency to curb hyperinflation; Breaks the cycle of rising prices linked to uncontrolled money supply.

 

Enhanced Trade Opportunities: Incentivizes export-focused strategies in a dollarized economy; Stable currency attracts foreign investors, fostering foreign trade.

 

Long-Term Planning: Stable dollar value facilitates accurate long-term economic planning; Businesses can make more accurate forecasts without the volatility of a depreciating domestic currency.

 

Reduced Speculative Risks: Mitigates risks associated with fluctuating exchange rates; Stability attracts foreign investors, promoting capital inflow and economic growth.

 

Financial Discipline: Forces governments to rely on fiscal policies for economic stability; Encourages more prudent fiscal management, curbing government overspending.

 

Ecuador’s Experience

路聽聽聽聽聽聽 Despite initial upheaval post-dollarisation in 2000, Ecuador experienced significant economic progress.

路聽聽聽聽聽聽 Reduced inflation rates, lowered debt ratios, and improved social welfare.

路聽聽聽聽聽聽 Success attributed not solely to dollarisation as booming oil and gas reserves during the 2000s and expanded government intervention played crucial roles.

 

 

Challenges of Dollarisation

Policy Constraints: Limits a country’s ability to manage monetary policy independently; Loss of control over money supply and interest rates hampers response to economic downturns.

 

Economic Shock Vulnerability: Fixed currency makes economies vulnerable to external shocks; Lack of flexibility to adjust exchange rates in response to global economic changes.

 

Limited Export Competitiveness: Loss of control over the exchange rate restricts currency devaluation for export competitiveness.

 

Inability to Address Internal Imbalances: Dollarisation may not address internal structural issues;聽聽聽 聽Dependency on a foreign currency might overshadow the need for internal reforms crucial for sustained development.

 

路聽聽聽聽聽聽 In 2022, the IMF observed that central banks around the globe聽were not maintaining the same levels of reserves in the US dollar,聽as they had done in the past.

 

De-dollarisation

 

Deliberate or unintentional process to reduce reliance on the US dollar.

 

Reasons:

路聽聽聽聽聽聽 Reducing exposure to US monetary policy.

路聽聽聽聽聽聽 Asserting economic sovereignty.

路聽聽聽聽聽聽 Mitigating effects of dollar fluctuations.

路聽聽聽聽聽聽 Seeking greater independence in global finance.

 

Strategies:

路聽聽聽聽聽聽 Diversifying currency reserves.

路聽聽聽聽聽聽 Promoting alternative currencies in trade agreements.

路聽聽聽聽聽聽 Establishing currency swap agreements.

路聽聽聽聽聽聽 Encouraging the use of regional currencies in financial transactions.

 

RBI鈥檚 Efforts:

路聽聽聽聽聽聽 In March 2023, RBI mechanism for rupee trade settlement with 18 countries.

路聽聽聽聽聽聽 Banks allowed to open Special Vostro Rupee Accounts (SVRAs) for settling payments in Indian Rupees.

 

 

Conclusion

  • Dollarisation, with effective domestic policies, paves the way for economic success.
  • Efficacy hinges on nuanced policy execution, balancing stability with the need for independent economic strategies.

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