Euro as Reserve and Invoicing Currency

A news wire is reporting that Russia remains committed to diversifying its reserves and has not changed its view of the euro. This is consistent with what several other central banks, including China, Japan and South Korea have indicated recently.

That said, Russian data out in the middle of last month showed an increase in dollar holdings (44.5% vs 41.5% at the end of 2009) and a decrease in euro holdings (43.8% from 47.5%) However, valuation shifts likely account for the bulk of the change. In the first four months of the year the euro was the worst performing among the G10 currencies, falling about 7.2%. And two other currencies that Russia may hold in reserves, the Australian and Canadian dollars were the strongest in the first third of the year, appreciating about 3% and 3.5% respectively.

We have been bemused with prior reports and commentary that have emphasized the pro-cyclical nature of central bank reserve adjustments. Talk of shift out of dollars seemed to reach a crescendo when the dollar is falling and weak. And now that the euro is weak, there is speculation that central banks will reduce their euro holdings.

To the contrary, assuming that one expects EMU to survive the next several years, the longer-term project of diversifying reserves, or allocation adjustments are more likely to be counter-cyclical. That is such long-term participants should buy in to weakness and sell into strength.

The euro's role as a reserve currency may not be really adversely impacted by the sovereign debt crisis provided confidence that it survives this challenge. On the other hand the euro's role as an invoicing currency may be more sensitive to short-term swings and outlook. This seems to be particularly the case for Chinese exporters. It is difficult to get much hard data on the use of euro, or dollar for that matter, for invoicing. Anecdotal data is the best one can get.

Consider Hangzhou Natutex Apparel Corp, which produces outdoor fabrics. Europe is the destination of the bulk of its exports, according to press reports. In 2009, an estimate 50% of its sales were invoiced in euros. Reports suggest that it has been cut back to 5%.

Several local governments in China have told exporters to be cautious about settling trade contracts in euros and encouraged that if necessary, sign short-term contracts only. This follows a period of time when some of the same governments were encouraging diversification away from the dollar as the invoice vehicle. Local press reports suggests that around three-quarters of China's exports are invoiced in dollars.

Shishi Daily, an official newspaper for the export base in the Fujian province recently reported that its exporters have fared well because they followed the government's advice and moved away from using the euro for invoicing purposes.