An This is related to the financial authorities’

An international currency one that is used
by offshore residents as a mean of exchange, store of value and unit of account
(Truman,
1999). While these roles can be achieved by different currencies.

It is important to study the difference between
public sector’s and private sector’s use of an international currency (Frankel, 2000).
Financial authorities might hold an international currency to assist their use
of the exchange rate in their financial policy structure, to intercede in
foreign exchange markets. The currency used by public sector to fulfill these
roles is called reserve currency, whereas in private markets the use of an
international currency is quite different. They use it for invoicing or
trading. (Galati & Wooldridge, 2009) The use of international currency in
both official and public sector is closely related but the effect of one on the
other is not simple.

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The major role of an international currency is as
a medium of exchange. This is related to the financial authorities’ choice of
the currency in which they want to intercede in foreign exchange markets. This choice
is also affected by the conditions of liquidity in asset market. Reserve managers
mostly invest their money in instruments which have a limited market and low
risk (Galati & Wooldridge, 2009).

According to (Galati & Wooldridge, 2009) since
the EMU has started there has been a discussion about the capability of euro to
challenge the US dollar as a reserve currency. In 1999 when the euro was
introduced, it did much to encourage the growth of euro monetary markets.
However, in terms of size, credit quality and liquidity, dollar markets are
still better than the euro markets (Galati & Wooldridge, 2009).

 

Galati, G., & Wooldridge, P. (2009).
The euro as a reserve currency: a challenge to the pre-eminence of the US
dollar? International Journal of Finance & Economics, 14(1), 1-23.
doi:10.1002/ijfe.379

 

 

Soon after when the euro was introduced it
came into wide use to denominate bonds and its shares almost rivaled the sum of
the shares of franc and guilder (Chinn & Frankel, 2008). Its international
use has been grown by all aspects. Near about half of euroland trade offshore
residents is invoiced in the new currency (Hartmann 1998).

Chinn, M., & Frankel, J. (2008). Why
the Euro Will Rival the Dollar. International Finance, 11(1), 49-73.
doi:10.1111/j.1468-2362.2008.00215.x

 

 

Many experts believe that the euro will
rival the dollar. However, such a change can take enough time (Bergsten, 1997).
But there are historical evidences that the major shocks can bring changes like
this. In 1931, depreciation of pound sterling reduced its role and drive the dollar
into dominant role (Bergsten, 1997). If the euro will rise it will change the
overall monetary system that has been dominated by dollar into a bipolar
regime. A major policy challenge will occur due to the exchange rate between
the euro and dollar.

Bergsten, C. F. (1997). The Dollar and the
Euro. Foreign Affairs, 76(4), 83. doi:10.2307/20048123

 

So far, the
arrival of euro has increased the foreign use of dollar currency. Now it seems
that euro currency will find notable use in central and Eastern Europe,
including those countries which will join EU in future (Mussa, 2002). Since
now, nothing has been discussed about the exchange rate of the euro in comparison
to the other currencies, the conduct of these exchange rates must be a major
factor that affect the monetary interactions between the euro area and the
other world (Mussa, 2002).

 

Mussa, M. (2002). The euro versus the
dollar: not a zero sum game. Journal of Policy Modeling, 24(4), 361-372.
doi:10.1016/s0161-8938(02)00115-1

 

If all thirteen EU member states who are
presently not in the EMU join it by next few years, including UK then the euro
may overtakes the dollar after few years (Clarida, 2007).  Even if these member states do not join the
extension of the recent trend devaluation of the dollar, were it to happen for
any reason, could bring the overturn point shortly (Clarida, 2007).

 

Clarida, R. H.
(2007). G7 current account imbalances: sustainability and adjustment. Chicago:
The University of Chicago Press

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