Structure Introduction & Background Single Currency Theoretical - - PowerPoint PPT Presentation

Exploring the use of a common currency and/or payment mechanism amongst BRICS countries

Jaya Josie, Head, BRICS Research Centre, HSRC , Ronney Ncwadi, Head , Department of Economics, NMMU & Babalwa Siswana, Researcher, BRICS Research Centre, HSRC

Structure

• Introduction & Background
• Single Currency Theoretical Arguments
• Intra-BRICS trade
• Rationale for Single Currency/Payment Mechanism in BRICS

economies

• Economic performance trends in BRICS economies
• Data analysis and procedures
• Vector Auto-Regression Analysis
• Conclusion

Introduction

• Paper draws on joint study “Pre-conditions and Possibilities for using

National BRICS Currencies in International Settlements“ led by the RISS

• Current Debates: Does Brazil, Russia & SA’s (BRS) slow economic

recovery from the GFC presage the imminent demise of BRICS?

• International trade, investment & finance trends in BRS & BRICS severely

affected by exchange rate volatility

• BRICS countries represents two thirds of the share of developing world

economy

• This share increased from 8% in 2002 to 22.2% in 2015
• To to mitigate GFC effects BRICS countries established NDB
• Launched in 2014
• Initial fund of US$100 billion
• NDB set up by BRICS plans to provide lending to technology innovation

projects

• In 2016, NDB approved $1.5 billion loans to BRICS member states
• Considering BRICS Rating Agency

Background

• Joint study examines in general common BRICS payment mechanisms to

reduce dependence on US $ and Forex.

• This paper focuses on theory of using a common currency for BRICS
• Example: the Euro in the European Union (January 1999)
• Other common mechanisms include
• Bilateral or multilateral Swap Arrangement for trade & investment
• Use of the BRICS Contingency Reserve Agreement (CRA) as Special Drawing Rights

(SDR) to cushion against external shocks

• Pegging BRICS currencies to a gold standard
• Use of one BRICS international reserve currency (e.g. RMB) for payments
• Among BRICS countries, Chinese Renminbi (Yuan) has attained international

reserve currency status

• A Multilateral approach ensures investment toward full employment (Kalecki,

1946) as interconnected economies reduce disputes through negotiation

• Aim: to test if convergence of BRICS currencies towards a single currency is a

necessary condition for greater multilateral economic integration among BRICS

International Reserve Currencies in Transactions

• Trade relations & trade rivalries are dominated and determined by Dollar, Euro,

Pound sterling & Yen among developing and emerging countries

Figure 1: IMF weight of Renminbi among SDR reserves currencies

• Trade & Investment in BRICS is in the forefront in boosting economic growth and

sustainable development

Rationale for Single Currency/Payment Mechanism in BRICS economies

• International finance is failing to keep pace with dynamic

changes in the developing countries

• Explore possible common currency/payment systems in

& among BRICS countries (e.g. financial cooperation between China & Russia) becaue it;

• Increases price transparency as prices in different

currencies can be difficult to compare

• Increases inward investment

Current State of Trade & Investment in BRICS

• Greater emphasis on trade in goods than on services
• China is dominant in industrial production
• Russia & SA mainly mineral resources & oil
• SA & India developed financial service sector that can play

role in the group

• Currently level of multilateral trade limited
• Degree of bilateral integration measured using trade-

combined index for SA & China shows trade balance in favour of China

Measuring Degree of Bilateral Trade Integration Using Trade Combined Index (TCI)

• TCI adapted from Gang Jianhua et al. 2016
• TCI measures the degree of bilateral trade integration, for South Africa

& China defined as

ISAC = (XSAC / XSA)/(MC/MW )………………………………..………(1) Where: XSAC=Exports from South Africa to China XSA =South Africa’s total export MC =Total import of China MW =Total import of the whole world

• If (XSAC) is greater than 1, that is, the two trading countries are more

intensively integrated (or combined) than the world average.

• Greater TCI means the more intensive the trading relationship

Degree of integration, TCI for Trade between South Africa and China

Figure 2 (a): The trade combined index of ISAC and ICSA

(US$)

• Both ISAC and ICSA are less than 1, with

the ISAC much greater than ICSA from 2009 until 2015

• The result shows that South Africa’s

dependence on China’s market is greater than China’s dependence on South Africa’s market.

Figure 2 (b): The trade combined index of ISAI and IISA (US$)

• ISAI from 2006 until 2015 was greater

than 1 percent through the period while IISA was less than 1 percent since 2006 until 2015

0.00 0.50 1.00 1.50 2.00 2.50 3.00 3.50 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 % Year Trade Combined Index ISAI Trade Combined Index IISA 0.0005 0.001 0.0015 0.002 0.0025 0.003 0.0035 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 % Year Trade Combined Index ISAC Trade Combined Index ICSA

Single Currency Theoretical Arguments

• Single currency based on price and wage symmetry within group

(Mundell, 1961)

• High degree of economic openness between nations in an optimal

currency area (Mckinnon, 1963)

• Mkenda (2001) used General Purchasing Power Parity (PPP)

method in East Africa to test:

• Cointegration between Real Exchange Rate (RER)
• Long-run relationship between RER
• Countries that trade together are more likely to have business cycles

that are highly correlated (Frankel & Rose, 1997)

• Several studies on trade impacts of currency unions produced mixed

results [Souza (2002); Bun et al., (2002); Nardis & Vicarelli (2003); Baldwin et al., (2005); Flam and Nordström (2003) & Faruqee (2004)]

Intra-BRICS trade

• China was the leading trade partner for BRICS countries
• South Africa's share was the smallest in each of BRICS markets

Economic performance trends in BRICS countries

Figure 2: Exchange rate in BRICS countries

• Currencies have been weakening

against the US dollar during the period

Figure 3: GDP growth rates in BRICS countries .

Data analysis and procedures

• Used time series data analysis in a multi-variate

context from 2002-2012

• Data was collected from various sources
• The study made use of VAR
• Augmented Dickey-Fuller, Phillips-Perron test and

Kwiatkowski, Phillips, Schmidt and Shin

• Previous studies employed cross sectional & panel

data framework (Quinn 1997, Kraay 1998, Rodrik 1998; Klein and Olivei 1999, Edwards 2001, Reisen and Soto, 2001, Edison et al, 2002, Klein 2003)

Vector Auto-Regression Analysis

• Cointegration tests were done using PPP

US$ conversions

• PPP is an economic theory that compares

different countries' currencies through a common "basket of goods" approach.

Cointegration Results

• Trace test results shows at least 3

cointegration equations in VAR model

• Eigenvalues provides cointegration in

BRICS currencies in a long run

Cointegration Results

• SA currency has been losing PPP compared to other BRCS

countries

Correlation, Normality & Residual Stationarity Tests

• P-value at lag 2 is 39%
• larger than the critical p-value at 5%

level

• we fail to reject the null
• Figure 5 shows that residuals are mean

reverting

Proof for the Vector Auto-regression (VAR) Model

• Below figure shows the proof that VAR model is stable
• All dots fall within a circle

Concluding Remarks

• To be a member of a BRICS single currency many constraining factors

will have to be aligned for optimal benefits.

• Initially maybe difficult to ensure successful operations with a BRICS

single market for goods, services, capital & labour.

• Accession to a single currency is a process of financial integration that

should be a long-term goal.

• Adopting the BRICS single currency demands extensive preparations
• Economic and legal convergence.
• Design economic criteria
• Use the exchange rates instead of PPP in order to compare the results
• Check the volatility of each of the BRICS countries’ currencies
• Check systemic risks inherent in the currencies.
• Rather consider other common payment mechanisms in the short to

medium term

Thank you

Contact details: jjosie@hsrc.ac.za Ronney.Ncwadi@nmmu.ac.za bsiswana@hsrc.ac.za