Should Argentina Adopt the US Dollar?

This paper examines the pros and cons of the recent proposal that Argentina should adopt the US dollar as its official currency, rather than have a currency board system in which the units of domestic currency issued are backed “one-to-one” by dollar reserves. The motivation for adopting the dollar seems to be that it could guarantee credibility in monetary policy and eliminate the risk premium which keeps Argentine peso interest rates above the corresponding US dollar rates. The risk premium is against the possibility that economic difficulties and political pressures may, one day, force a weakening of the currency board system by eroding the US dollar reserves back the Argentine pesos at the one-to-one conversion rate, and thereby allow the Argentine peso to be devalued. A second motivation is to provide insulation from the kind of financial crises that have hit Brazil and other Latin American economies. Once again, the credibility of the exchange rate link and of preserving financial stability seems to be the key feature. Against those benefits we have to evaluate the economic costs (we do not look at the political costs). First Argentina and the USA hardly satisfy the criteria for an optimum currency area. Monetary policy mismatches may result. Second, adopting the dollar might interrupt the benefits from, and progress towards, greater economic integration with Argentina’s main trading partners in Latin America. Third there is the issue of seigniorage. Nevertheless, we conclude there is still a strong case for adopting the US dollar, given that the Mercosur trading partners are also substantially dollarised. JEL Classification: E42, E58, F33