The euro's role as a reserve currency is growing and the chart here shows the euro and US dollar shares in international foreign-exchange reserves and their annual percentage change. It can be seen that the share of the euro has risen strongly since the currency was launched eleven years ago. By Q3 2009 it had grown to 27.7%, from 18.1%. This represents an increase of 53% in a growing environment, as total forex reserves have quintupled over the same period. Deutsche Bank economist Nicolaus Heinen says despite the data, eurosceptics consider the euro's role as reserve currency to be in jeopardy at present. They fear that high government debt in some EMU countries could make the euro unattractive to international investors. Heinen says this argument does not hold, however, as the lack of risk appetite is offset by higher risk premiums on government bonds in debtor countries. So it is no contradiction that the euro's share in global forex reserves reached its highest level since 2004 in Q1 2009, when risk premiums on Greek bonds hit a first record high. 

What’s in store for the future? On a medium-term horizon there are no alternatives to the euro and the dollar. To be sure, sterling could benefit for a short while from turbulence in the euro area. But Britain’s expansionary monetary policy and inflationary tendencies make sterling an expensive alternative in the long run, according to Heinen.

He says the euro will continue to gain in importance relative to the dollar - - not only because of the confidence built by the ECB’s conservative monetary policy over the past years. Another reason is the potential for diversification: only within EMU (European Monetary  System) where investors choose from a wide range of government bonds issued in the country’s home currency with different yield and risk classes without having to switch currencies.

Over the long term, the euro’s significance will depend neither on the US nor on Europe but on China’s willingness to liberalise its capital markets. With free movement of capital and freely floating exchange rates the yuan could become a serious alternative to the euro and the dollar as reserve currency.

Data from the US Treasury shows that euro currencies accounted for in excess of 30% of total reserves in 1980.

Fred Bergsten, who served in the Treasury Department during the Carter administration and is now head of the Peterson Institute for International Economics think-tank, has argued that the dollar’s days are numbered as a reserve currency. Writing in the magazine Foreign Affairs, he said last year that the dollar’s position as the default international currency had made it “much easier for the United States to finance, and thus run up, large trade and current account deficits with the rest of the world.” But the US trade deficit, along with the huge US budget deficit, laid the groundwork for the current financial crisis. So he said it is now time for Washington to realise that “large external deficits, the dominance of the dollar, and the large capital inflows that necessarily accompany deficits and currency dominance are no longer in the United States’ national interest.” It’s time to start creating an international currency system that does not rely on the dollar, he concluded.

SEE Finfacts article, Oct 2009: US refrains from calling China currency manipulator; Economist says reduction in dollar role would help America's economy

The current system of imbalances with China, the world's biggest goods exporter fixing it currency to the dollar creates problems both for the US and Europe.

Last November, Chinese Premier Wen Jiabao rejected “unfair” calls for the yuan to appreciate and European leaders, including ECB president, Jean-Claude Trichet, acknowledged that they had failed to shift Chinese views or interests.

“Some countries are now calling for yuan appreciation while imposing trade protectionism on China, which is unfair and actually limits China’s development,” Wen said at a briefing in the Chinese city of Nanjing. In the financial crisis, “a stable yuan is helpful to the development of the Chinese economy and the world’s economic recovery,” he added.

In related euro news, Greece was told by the European Commission on Tuesday to cut its public sector wage bill, speed up pensions reform and set aside 10% of expenditure in a contingency reserve

George Papaconstantinou, Greece’s finance minister, told the Financial Times he expected a return to economic growth from the middle of this year, boosted by strength in the shipping and tourism industries and the “hidden power of consumers” in the shadow economy.

The former OECD economist has the highest approval rating among Greece’s cabinet ministers. That probably reflects public support for economic reform but, he said, it was important to explain the steps being taken“in social justice terms."

“The average Greek is absolutely livid with doctors and lawyers that are not paying tax. He is furious with a state that doesn’t go after these people and always puts the burden on them,” Papaconstantinou said.