Discussion Papers 2022

CIRJE-F-1184	"Economic Geography and a Theory of International Currency: Implications of a Random Matching Model"
Author Name	Fukuda, Shin-ichi and Mariko Tanaka
Date	January 2022
Full Paper	PDF file
Remarks

Abstract
This paper presents a new theory that may explain why the US dollar is the dominant medium of exchange in international transactions. Unlike previous studies, we investigate a model in which economic geography affects the international currency choice. The model is based on a random matching model in which agents trade with foreign agents using a specific currency. We consider a world that consists of two regions, the EU and the USA, each of which has different active time zones. In local transactions, matched agents use their local currency. However, in international transactions, sellers choose either the Euro or the US dollar as the invoice currency to maximize their expected discounted utility. We show that under some reasonable conditions, the US dollar becomes the unique international currency, even if each region is symmetric in all ways except for their locations. Further, when the US dollar is used for international transactions, the expected discounted utility becomes higher in the US than in the EU in the steady-state equilibrium.
Keywords: international currency, medium of exchange, random matching model

Abstract

This paper presents a new theory that may explain why the US dollar is the dominant medium of exchange in international transactions. Unlike previous studies, we investigate a model in which economic geography affects the international currency choice. The model is based on a random matching model in which agents trade with foreign agents using a specific currency. We consider a world that consists of two regions, the EU and the USA, each of which has different active time zones. In local transactions, matched agents use their local currency. However, in international transactions, sellers choose either the Euro or the US dollar as the invoice currency to maximize their expected discounted utility. We show that under some reasonable conditions, the US dollar becomes the unique international currency, even if each region is symmetric in all ways except for their locations. Further, when the US dollar is used for international transactions, the expected discounted utility becomes higher in the US than in the EU in the steady-state equilibrium.

Keywords: international currency, medium of exchange, random matching model