After talking about official comprehensive dollarization was considered "taboo" at the beginning of the explosion of the financial - monetary - banking crisis in Lebanon, today it has become customary to receive news such as approving the possibility of paying public service bills such as electricity in US dollars as well as in Lebanese pounds, as well as discussing proposals for laws that reflect official dollarization, such as a law proposal in Parliament publicly adopting the US dollar as a reference currency for calculating fees for sources of funding for integrated solid waste management in Lebanon. This led to the public demand to legitimize the calculation of salaries, wages, and employee compensation in US dollars. Professor Steve Hanke from Johns Hopkins University conducted a detailed study in which he rejected all the arguments that stand in the way of moving to official comprehensive dollarization in countries where there is no longer an effective exchange rate system other than an "adjustable peg" (a monetary council or official comprehensive dollarization), currently starting from Argentina, providing answers that entirely apply to the reality of Lebanon.
This article was originally published in, translated from Lebanese newspaper al-Joumhouria.
One of the leading American economists, Steve Hanke, has demolished all the arguments that object to the transition to comprehensive dollarization in countries that need it according to criteria that make "adjustable peg" the only effective system in them (a monetary council or official comprehensive dollarization), in which he started from international experiences, which are All of them fall within the framework of valuable lessons that are compatible with the Lebanese reality, especially after the outbreak of the financial-monetary-banking crisis, which must begin to be addressed from the perspective of cash and the exchange rate system.
Objection 1: Argentina needs more dollars to transition to full dollarization.
Response: Most heavily dollarized countries, which chronically experience recurring financial crises and ineffective exchange rate systems, are highly dependent on foreign trade, services, and capital flows. Particularly after their banking systems collapse, measuring more than the available dollars within the banking system is insufficient. They are required to consider the quantities of cash dollars stored by individuals and institutions, which facilitate rapid circulation to meet transactions and provide enough dollars for full dollarization after the US dollar assumes all functions of the national currency in the concerned countries (as a store of value, unit of account, and medium of exchange).
People in the countries in question keep most of their dollars outside the banking system for fear that the government will confiscate dollars in the banking system.
Data from the US Federal Reserve System indicate that Argentina is the most significant foreign country holding cash dollars.
Objection 2: In the dollar-based monetary system, no entity can act as a lender of last resort for banks.
Response: Partially true. In the dollar system, there is no central bank that can create money willing to bail out bankrupt banks or other institutions. However, the dollar system has access to international financial markets, with vast investments available to temporarily illiquid companies with a longer duration. The financial system provides an example. In general, banking crises were rare in dollar systems.
Objection 3: Dollarization will not solve the problems of a small banking system for the size of the economy, nor will it significantly enhance economic growth.
Response: Indeed, the example of Ecuador suggests that dollarization would go a long way toward success in this context. The banking system is a growth factor. Banking services declined when Ecuador converted its currency to the dollar in January 2000. The system was in crisis for about a year. Deposits have been frozen. The transition to comprehensive dollarization encouraged Ecuadorians to restore confidence in the banking system and deposit money in banks again. Dollarization has enabled banks to provide loans for much more extended periods and at much lower nominal interest rates than previously.
Objection 4: Dollarization entails preconditions that Argentina lacks, especially regarding government financing.
Response: The experience of other countries that have adopted comprehensive dollarization has proven that this is optional as a precondition. Any country that wanted to transition to comprehensive dollarization could never do so because it needed more foreign currency, a balanced budget, or other characteristics.
The government budget must be in balance or close to it. Otherwise, the government will demand that the central bank create funds to finance the fiscal deficit.
While under comprehensive dollarization, there is no local central bank to finance the deficit.
Thus, dollarization forces the government to make its finances more sustainable. And they are adopting public financial discipline.
Objection 5: Its economic problems. The most important thing is the budget, not the currency.
Response: Universal dollarization imposes what economists call strict budget constraints. A government can only spend as much revenue as it generates, plus the number of financial market participants willing to lend to it. Central banks involve what economists call soft budget constraints. The government can spend more than its revenues and borrow in the financial markets because the central bank can finance it and may create inflation to do so.
Objection 6: Discretionary monetary policy trumps dollarization.
Response: In light of very high and chronic dollarization, the effectiveness of the central bank's traditional monetary tools is significantly reduced because they are only effective in controlling liquidity in the national currency, while most of the liquidity controlling the market is in foreign currencies. Hence, the option of controlling the exchange rate is to control the amount of liquidity. However, in the event of a monetary crisis in light of the fixed exchange rate, the solution must become a trickle-down solution through an "adjustable peg" (a monetary council or comprehensive dollarization).
Objection 7: Dollarization would make the exchange rate too rigid to compensate for economic shocks.
Response: Since its creation in 1935, the Argentine Central Bank has been the largest source of adverse shocks to the national economy. Putting an end to its role in printing currency and confining it to supervising the banking sector and its sound management would reduce the frequency of unfavorable shocks resulting from considerable fluctuations in monetary policy.
Objection 8: The economic cycles of a dollarized country are different from those of the United States, so linking them through dollarization would be harmful.
Response: Argentina will be able to grow if it can match the pace of the recession in the United States.
Objection 9: Dollarization will no longer be credible, and the national currency will return.
Response: Ecuador has been dollarized for nearly 24 years, the longest-lasting monetary system in history as an independent country. Like Argentina today, it was suffering from a severe dollar crisis. Dollarization has been challenging at times, but it has been less complicated than the national currency.
Dollarization was so popular that leftist President Rafael Correa hated it and could not reverse it during his ten years in office (2007-2017), despite his popularity.
Objection 10: Dollarization would repeat the disastrous experiment of the convertibility regime
Response: Full dollarization differs from a convertible system in that there is no domestic currency (except coins for small change, as Panama and Ecuador do).
The monetary board, or comprehensive dollarization, are two systems that do not allow monetary appreciation.
Objection 11: Ecuador's growth since dollarization has been slower than before.
Response: Actually, no. From 2000 to 2022 (since global dollarization), it averaged 2.9% per year. Not super fast.
Objection 12: The dollar is not the best currency for dollarization; the Euro or Brazilian Real would be better.
Response: The dollar is the most widely used foreign currency in Argentina. The people have already proven that they prefer this, and the law implementing dollarization must also allow it.
Argentina concludes contracts in any currency agreed upon by both parties, as in El Salvador, where people can use euros or reals and easily convert from dollars. The currency will become more favorable in the future.
The instability created by the peso far outweighs the profits generated by minting the peso. In any case, with very high dollarization, the liquidity of the national currency decreases, and thus, its printing and benefit from minting the currency decreases.
Objection 14: Dollarization entails the loss of sovereignty.
Response: There are often conflicting meanings of sovereignty.
In any case, once partial dollarization exceeds 70% or 80%, the central bank's monetary policy becomes automatically non-independent (except for financing fiscal deficits).
Sovereignty lies in a government's ability to make decisions on political matters as it sees fit, without foreign coercion, but this does not mean that the government is devoid of all constraints. In economies that restrict freedom, for example, through exchange controls, national sovereignty conflicts with consumer welfare. It is crucial not to conflate the decisions of a few politicians with the will of the people. By extensively using the dollar, Argentinians have shown that as consumers.
Dollarization itself required a legal solution, but it needed broader economic reforms to help Ecuador recover from the recession and financial crisis.
Dollarization is more than just a theoretical concept. It is already progressing well in over 30 jurisdictions today, including Panama, Ecuador, and El Salvador, among other Latin American countries. The key is transitioning to full dollarization according to scientific mechanisms, ensuring the best outcomes and the lowest economic and societal costs.