The Euro at 10: The Next Global Currency?

There are many different determinants of global currency usage. This paper will focus on one: a demand for a country’s financial liabilities due to financial deepening and liquidity. This focus does not to imply that financial market development is the only factor determining global currency usage, but as this paper will argue, it has been one of the most important determinants of demand for the dollar and will play an important role in determining the future of the euro. This topic is closely related to the financial crisis that is currently unwinding around the globe. What happens to European financial markets, and especially how European policymakers support and regulate their markets in response to the financial crisis, will be critical in determining the longer-term demand for European investments and the euro. This chapter will cover three topics. First, I take a step back and describe the insatiable demand for U.S. liabilities over the past few years. Second, I talk about the determinants of foreign investment in the United States, drawing from theoretical and empirical studies. Finally, I draw lessons for demand for European liabilities and the euro and link this to the current financial crisis