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Friday, 16 November 2012

Dollarization with total local monetary policy autonomy


Dollarization with total local monetary policy autonomy

The Daily Index Plan, namely, capital maintenance in units of constant purchasing power as authorized in IFRS twenty three years ago as an option to HCA plus daily inflation-indexing the entire money supply under complete co-ordination, both in terms of the daily US Dollar free-market rate would result in a constant (real value) local currency always being exactly equal to the US Dollar (used during hyperinflation).

The local hyperinflationary economy would in practice in the economy be Dollarized in terms of the constant (real value) local currency - not in terms of actual, physical US Dollars. Monetary and constant items would be constant in real value and their constant real values would remain constant in US Dollar terms too (exactly the same as).

The fundamental difference with actual Dollarization is that the local Central Bank would have complete monetary autonomy. That is what is completely lost / given up under Dollarization.

A Daily indexed local currency monetary item and a Daily indexed local currency constant real value non-monetary item are constant real value local currency items. They would always be exactly equal in real value to their  respective foreign currency equivalents when the daily free-market foreign currency exchange rate is used as the index during hyperinflation. The Daily CPI is used during low inflation and deflation.

Eg.: US Dollar : Iranian Rial exchange rate = 1 :35 000

The indexed local currency would be:

Local currency value divided by USD rate:

35 000 rials/35 000 = 1 which is the amount of US Dollars.

Thus: a constant real value local currency (monetary or constant real value non-monetary) item is always exactly equal to its US Dollar equivalent when the US Dollar exchange rate is used as the index during hyperinflation.

When the entire monetary and constant item economies are indexed daily in terms of the daily US Dollar rate, then they are Dollarized in constant (real value) local currency units, not in physical US Dollars.

It is a fact that official Dollarization or a Currency Board stops hyperinflation overnight at a huge cost in US Dollars, but with no local monetary policy autonomy. Dollarization or a Currency Board is a monetary policy straight-jacket and is very costly.

Anyone - not only Prof. Steve Hanke - can stop hyperinflation overnight with Dollarization or a Currency Board. It´s no big deal. No-one would use it now that the Daily Index Plan - based on the Brazilian Real Plan - is available as an IFRS at no cost.

The Daily Index Plan, i.e., capital maintenance in units of constant purchasing power plus daily inflation-indexing the entire money supply, both in terms of the daily US Dollar parallel rate, stops hyperinflation overnight at no cost and maintains total local monetary policy autonomy.

The official or unofficial Dollarization and a currency board solutions are thus made obsolete and irrelevant by the Daily Index Plan.

The Daily Index Plan equals Dollarization in constant real value local currency values: no US Dollars required.

The daily US Dollar rate is simply used as a relatively stable unit of account in the absence of a Daily Consumer Price Index. This is similar to pre-monetary economies which used units of account without money being available in the economy (Shiller). An economy could use the US Dollar parallel exchange rate as a relatively stable unit of account without a single US Dollar being exchanged in the economy.

The US Dollar is thus being used as subsitute for a universal unit of real value.

Any relatively stable foreign currency, e.g., the Euro or the Yuan, can be used instead of the US Dollar.

The US Dollar is used in this way during hyperinflation when reliable Daily CPI data are not avaliable. 

The Daily CPI is used as the Daily Index during low inflation, high inflation and deflation. All countries with government capital inflation-indexed bonds, including Venezuela in hyperinflation, already have a Daily CPI.

Nicolaas Smith

Copyright (c) 2005-2012 Nicolaas J Smith. All rights reserved. No reproduction without permission.

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