Asia Is Getting Ready to Dump the Dollar Peg http://quote.bloomberg.com/apps/news?pid=10000039&refer=columnist_mukherjee&sid=aVreBEdY.5cg May 8 (Bloomberg) -- Li Yong, China's vice minister for finance, said he had heard a ``rumor'' that the U.S. dollar was headed for a 25 percent drop. If the gossip was true, the consequences would be ``shocking,'' he said. Li's comment, which he made at a discussion on global financial imbalances last week at the annual meeting of the Asian Development Bank in the Indian city of Hyderabad, was aimed directly at fellow panelist Tim Adams, the U.S. Treasury undersecretary of international affairs. The unspoken message was: ``Don't try to talk the dollar down.'' And Adams knew better than to ask, ``Well, what are you going to do about it?'' The answer to that question has already begun taking shape: Asia may be getting ready to fix its currencies to a local anchor, dumping the region's unofficial dollar peg. Even as they continue to pile up U.S. debt in their foreign- exchange reserves to keep their currencies stable against the dollar, Asian nations, China among them, are preparing for a scenario where the dollar does indeed collapse under the weight of a record U.S. current account deficit. At the Hyderabad meeting, finance ministers of China, Japan and South Korea got together with their counterparts from the Association of Southeast Asian Nations, or Asean. The 13-nation group said it would sponsor a research project, titled ``Toward greater financial stability in the Asian region: Exploring steps to create regional monetary units.'' Asian Currency Unit This is no innocuous academic exercise. Regional monetary units are a euphemism for a parallel Asian currency, an idea that has been around since the 1997-98 financial crisis and is now, for the first time, entering the realm of policy making. Both Japan and China are extremely serious about it and are vying to take ownership of the project. An Asian Currency Unit, or ACU, will be an index that seeks to capture the value of a hypothetical Asian currency by taking a weighted average of several of them. The weight for a particular currency in the index may be determined by the size of the economy and the quantity of its total trade. What's the big deal with the ACU? Given the data, anyone can set up an index. It isn't that Asia is talking about replacing its national currencies with the ACU. A European-style single currency in Asia is at least decades away. The ACU is an accounting unit; it won't change hands in the physical world. The ACU will start making a difference when it becomes the fulcrum of exchange-rate management in Asia. There is some sign that Asian nations want to do just that. A New Peg Korea, Japan and China agreed in Hyderabad to ``immediately launch discussions on the road map for a system to coordinate foreign exchange policy.'' The ACU can help a lot in such coordination. It can become a basket peg against which any Asian nation can fix the value of its currency within a band. The ACU, itself, will float. Why might the ACU work when the now-defunct European Currency Unit, on which the concept is modeled, didn't? One good reason, as noted by economist Barry Eichengreen of the University of California, Berkeley, is that Europe's need for a parallel currency was satisfied by the dollar. The ACU may well emerge as a viable currency for denominating export invoices, bank loans and bond issuances if the dollar is no longer perceived as a safe storage of value. So far, Japan has been driving the ACU concept. Haruhiko Kuroda, a former Japanese vice minister of finance and currently the president of the Asian Development Bank, was vigorously pursuing it. The ADB was going to start computing and publishing several ACUs sometime this year. China in Control One such ACU would have comprised 13 members, including the Japanese yen, the Chinese yuan, the Korean won and the currencies of Singapore, Malaysia, Thailand, Indonesia, Brunei, Vietnam, Cambodia, Laos, Myanmar and the Philippines. Another ACU would have included both the yuan and the Taiwan dollar -- and that would have been anathema to China. Nor would China have liked to peg the yuan to an ACU that was overly dominated by the yen. Now China has taken control. While the research will still be conducted in Japan, Asean will take the decision on the composition of the ACU. While Japan is a member of this club, its influence is in decline. The association is now firmly under China's thumb. While China continues to exhort the U.S. not to follow weak- dollar policies, it, like everyone else, can only guess about the longevity of the present global imbalances. If there is a sudden collapse in the dollar, the U.S. appetite for imported goods may vanish. The Chinese export engine may seize up and its fragile banking system may collapse under a spate of new bad loans. The idea behind the ACU is to buy some insurance, however inadequate, against all of this. Stalemate With its ``my currency is your problem'' attitude, the U.S. has made a negotiated settlement of global imbalances a diplomatic non-starter. China isn't willing to consider the U.S. argument that quicker appreciation of the yuan may prevent a costly adjustment later. Once again in Hyderabad, Undersecretary Adams tried valiantly to get this message across to Chinese Vice Finance Minister Li. He was wasting his breath. Li, as Adams noted wryly, ``knows all my talking points.''