Latin Nations Urged to Consider Link to Dollar

Warning that Latin American currencies are ill-equipped to withstand the pressures of the high-speed global economy, the Inter-American Development Bank on Sunday issued a report urging the region to consider linking its currencies to the dollar or replacing them with greenbacks altogether.

The report also urged consideration of a monetary union of Latin American nations and the issuance of a “supranational currency,” like the euro, and suggested a portrait of Christopher Columbus on one of the denominations.

The IDB study represents the loudest salvo fired by a growing number of economists and business people who say “dollarization” of emerging markets’ financial systems may be the only way to contain the spread of economic crises around the globe.

The report touched off considerable controversy on the eve of the IDB’s annual meeting here this week. It drew rebukes from experts such as UCLA professor Sebastian Edwards, formerly the World Bank’s chief Latin American economist, who said the debate “trivializes an extremely complex situation.”

But the fact that the IDB, a multilateral development bank that funds huge infrastructure projects throughout the hemisphere, has seriously proposed such a plan gives credibility to an idea that only months ago seemed frivolous.

“This is the first time there has been a systematic, serious exploration of the costs and benefits of Latin American dollarization,” said Michael Gavin, a former IDB economist and Columbia University professor now with investment bank Warburg Dillon Read.

The growing interest in dollarization illustrates how financial experts are seeking new answers to dealing with economic crises that may start in Mexico, Asia or Russia but end up wreaking havoc half a world away.

The study, overseen by the IDB’s chief economist, Ricardo Hausmann, says world markets treat Latin American currencies unfairly and that those countries might be better off pegging their legal tender at fixed rates to dollars held in reserve, as do Argentina and El Salvador, or by actually putting dollars in circulation in lieu of a national currency, as Panama has done.

Among those weighing in against dollarization were the finance ministers of Chile and Mexico, who said their countries might be better off tackling fiscal reforms than hoping a change in monetary policy would work wonders.

“I’m concerned that people might be seeing in dollarization a deus ex machina. The crisis is still unfolding and there still can be no closure to the debate,” said Chile’s finance minister, Eduardo Aninat.

Arminio Fraga, Brazil’s new central bank head, said he had “concerns that we have short memories. The answer is not so obvious. We had fixed rates in Thailand, you know,” a reference to the economy whose problems helped trigger the Asian crisis. The views of the pro-dollarization camp were expressed by Pablo Guidotti, Argentina’s finance secretary. “There are too many currencies in the world,” he said. “We’ll have many less in coming years.”

Argentina’s point was echoed by Hausmann, who told a panel: “We live in a world with two soft drink makers, two airliner manufacturers, three toothpaste makers and 180 currency manufacturers.” Argentina and top U.S. officials have discussed the adoption of the greenback as Argentina’s legitimate currency, although no U.S. endorsement would be needed. Federal Reserve Chairman Alan Greenspan has voiced wariness about dollarization, noting that the United States must pursue monetary policies that are in its own interests--.

El Salvador’s finance minister, Manuel Hinds, said that since 1992 dollarization has been a godsend for his country, leading to stability, low mortgage rates and safe pension plans. El Salvador circulates 8.75 units of its currency, the colon, for each dollar it has in U.S. banks.

Although views on remedies may diverge, there is little disagreement that big problems need to be confronted. Massive capital flight punishes dozens of emerging countries once one gets in trouble.

The woes of Brazil, which spent $50 billion in reserves in a futile attempt to uphold the real’s value within an artificially set trading band before letting it devalue in January, has focused attention on finding ways to limit the damage.